In pursuit of the perfect fee model

Matteo Dante Perruccio and Mark Barker, chief executive and co-chief investment officer of Hermes BPK, the boutique fund of funds majority-owned by Hermes Fund Managers in turn owned by the BT Pension Scheme, speak to Amanda White about the benefits of focusing on investment management, and not asset gathering, in the hedge fund game and why alternative fee structures can work.

The appropriate fee level to pay a hedge fund manager will be one of the lasting legacies to come from the global financial crisis. Part of the disparity in fee alignment – an over-used but pertinent description – between managers and their clients was that asset gathering, and not investment management had become the focus for those managing the money. The crisis has thrown all the cards in the air.

For the partners of Hermes BPK, who had the advantage of starting their business with a large mandate and a clean slate, investment management excellence is the focus of everything they do.

“We looked at the fund-of-hedge-fund model and said 2008 highlighted a lot of issues, one of those was that asset gathering – not investment management – had become the focus,” Matteo Dante Perruccio, chief executive says.

Hermes BPK is majority-owned by Hermes Fund Managers which itself is fully-owned by the UK’s largest pension fund, the BT Pension Scheme, which was the originator of the boutique’s $1.3 billion seed mandate.

The advantages of having your largest client also your part owner are bountiful. BPK is constantly under review with frequent due diligence checks, and product development is done in conjunction with the scheme.

Co-chief investment officer Mark Barker says the partners were very fortunate to put together the firm and its offerings with the client.

“It meets the most robust transparency expectations,” he says.

Both agree, together with the other founding partner Gregory Knott, that “doing the right thing” is the underlying motivation of the firm.

“Within the Hermes DNA is a strong corporate governance culture, this keeps us in the discipline,” Barker says. “There is a very direct link with the pensioners of the UK, and that’s a fantastic discipline.”

“We know that we limit our universe of potential investors by doing that,” Perruccio says. “For example we wouldn’t have a distressed portfolio with quarterly liquidity because it is not the right thing to do, we would put more appropriate liquidity conditions like a lock up for two years.”

The manager, which now has three product offerings since its launch in 2008, is not afraid to be different, which takes courage.

“Some of the large players are stuck in the old model. But we have had the advantage of being able to fix the model. It’s like with technological developments with mobile phones, Apple didn’t say we don’t want to make phones anymore, they said let’s do it differently,” Perruccio says.

In addition to a focus on corporate governance engagement on issues such as board independence, one of the defining factors of Hermes BPK is the work it is doing on fee remodelling.

“We are working on a fee model that will allow investors to claw back fees over a three-year period if we are under our high water mark at the end of three years,” Barker says. “It is a very complex administrative issue that can’t be done inside the fund.”

The fee is taken but the performance needs to be maintained in order for the manager to keep the fee. If the performance is below the watermark over three years then the client gets the fee back on the part of the performance they haven’t received.

“We should be earning, not taking, our fees,” Perruccio says. “We deserve to get paid for what we do but we need to earn them, this has very positive repercussions in the way we manage money including transparency and alignment.”

The directors wouldn’t delve deeper into the fee model as it is still waiting some legal detail, but the three funds Hermes BPK offers currently charge fees of 1.5 per cent in a management fee, and 10 per cent performance fee.

Hermes BPK is also engaging with its underlying managers, and looking at two- and three-year fee structures, which has been met with a surprisingly positive reaction.

“We need these talented people but they need to do the right thing,” Perruccio says.

Barker says on the engagement side it’s easy to get caught up on the fee discussion, but he places as much emphasis on corporate governance.

“Any changes we achieve are not for ourselves but for all investors, we are making the standard of the industry better.”