Growing the Asset Management Franchise: Evidence from Hedge Fund Firms
Abstract
We explore the capital raising activities of hedge fund firms. We find that hedge fund firms have strong incentives to launch multiple funds so as to circumvent fund level capacity constraints and take advantage of the non-netting of incentive fees across funds. They do so principally by leveraging on the performance of their first funds or flagships. Firms with successful flagships are able to raise follow-on funds that charge higher fees, set more onerous redemption terms, and attract greater inflows. Such capital raising activities are detrimental to fund investors. Non-flagship funds conceived by fund families underperform flagship funds by up to 3.48 percent per year after adjusting for co-variation with the Fung and Hsieh (2004) factors. Consequently, firms that have launched many funds significantly underperform single fund firms. Despite the underperformance of these multiple product firms, they generate greater fee revenues for their management companies than do single product firms, even after controlling for firm assets under management. These results shed light on the agency problems confronting the asset management industry.