Charlie Munger used Monish Pabrai as an example because he’s one of the rare to used the original Buffett Partnerships free structure. Monish went 10 years without taking fees, just living off his capital. That’s tough. But this is the right way to do it. It’s extremely rare to see investment managers use that formula because it’s simply too hard.
The formula is 0/6/25:
- 0% Management fee
- 6% Annual performance hurdle with high water mark. That means you need a minimum of 6% gain to start getting paid. The high water mark is the highest peak in value that the investment has reached. The manager cannot collect an incentive fee unless the fund’s value is above the high water mark and returns are above the hurdle rate.
- 25% fee on gains over 6%
A good question is do you think that formula would incentive a manager to take higher risk just to get over the hurdle rate? Or does it align the interest of the shareholders with the manager? I think the answer depends on the manager.