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What is a High Water Mark and should that matter when I'm shopping for a hedge fund?
Asked by John Hutter

Answer By Richard Wilson

These are the status quo within the industry now and they assure investors that profit sharing will be calculated based on a fair valuation of returns earned. Many hedge funds collect a 2% fee on all assets and then a 20% performance fee, meaning that if the fund gains 100% in one year the hedge fund gets to keep 20% of those profits and the investor keeps the other 80%. A high water mark is the highest net asset value previously seen at the end of the fiscal year.

High Water Mark Example: An investor gives a hedge fund $500k in 2006 and that investment's value falls to $300k. In 2007 the hedge fund produces 100% returns and that investment is now worth $600k. This individual would only have to pay performance fees on that gain between the $500k and $600k, not the full 100% gain ($300k) for that year.