Problem 26-17

Here are data on three hedge funds. Each fund charges itsinvestors an incentive fee of 10% of total returns. Supposeinitially that a fund of funds (FF) manager buys equal amounts ofeach of these funds, and also charges its investors a 10% incentivefee. For simplicity, assume also that management fees other thanincentive fees are zero for all funds.

	Hedge Fund 1			Hedge Fund 2			Hedge Fund 3
Start of year value (millions)	$	170		$	170		$	170
Gross portfolio rate of return		15	%		20	%		35	%

a. Compute the rate of return after incentivefees to an investor in the fund of funds. (Do not roundintermediate calculations. Round your answer to 2 decimalplaces.)

b. Suppose that instead of buying shares ineach of the three hedge funds, a stand-alone (SA) hedge fundpurchases the same portfolio as the three underlyingfunds. The total value and composition of the SA fund is thereforeidentical to the one that would result from aggregating the threehedge funds. Consider an investor in the SA fund. After paying 10%incentive fees, what would be the value of the investor’s portfolioat the end of the year? (Do not round your intermediatecalculations. Round your answer to 2 decimalplaces.)

d. Now suppose that the return on the portfolioheld by hedge fund 3 were ?35% rather than +35%. Recalculate youranswers to parts (a) and (b). (Do notround your intermediate calculations. Negative amount should beindicated by a minus sign. Leave no cells blank - be certain toenter "0" wherever required. Round your answers to 2 decimalplaces.)