The Effects of Management and Provision Accounts on Hedge Fund Returns - Part I: The HighWater Mark Scheme.

Summary A characteristic of hedge funds is not only an active portfolio management, but also the allocation of portfolio performance between different accounts, which are the accounts for the external investors and an account for the management firm, respectively. Despite a lack of transparency in hedge fund market, the strategy of performance allocation is publicly available. This paper shows that, for the High WaterMark Scheme, these complex performance allocation strategiesmight explain empirical facts observed in hedge fund returns, such as return persistence, skewed return distribution, bias ratio, or implied increasing risk appetite.