Hedge Fund Manager Incentives and Multiple High Water Marks

This paper extends the model of Hodder and Jackwerth (2007) and analyzes the impact of multiple high water marks on investment behavior and closure decisions of hedge fund managers. While multiple high water marks might diminish deviations from optimal investment rules from the point of view of owner managed funds, the shutdown decision mainly depends on the manager's ownership share. Influence on the latter is exerted by the flow of funds, which are also a key element to explaining the existence of multiple high water marks. Moreover, the impact of performance on managerial incentives is driven by a non-monotonic relationship between fund flows and negative past performance.