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Hurdle Rate and Performance Fees

In our last blog, we talked about different fees applicable when you get a portfolio management service. 

To recap, Portfolio Management Service providers charge Annual Maintenance Charge (AMC) and Performance Fees. In some cases, a joining fee is also charged. Performance fees are often tied with a Hurdle Rate. 

In this blog, we will talk about hurdle rate and also how PMS providers will charge you performance fees. So let’s get right in. 

What is the Hurdle Rate?

In Investment terms, the hurdle rate is the minimum return that an investor requires from a particular investment. Often, the hurdle rate is higher for riskier projects. 

Similarly, for Portfolio Management Service, Hurdle Rate is the minimum return that the portfolio should bring for the PMS providers to be able to charge the performance Fees. Meaning, if the Portfolio performance is below the said Hurdle Rate, you will not be charged any Performance Fees. 

Let’s take an example. Assume you invest NPR 10 Lakhs worth of cash or stock equivalent in your PMS account with a hurdle rate of 8 percent. After a year, if your portfolio increased by only 70,000 NPR (7% increase) then you will not have to pay any performance fees.

But, if the portfolio increases by more than 80,000 NPR (8%), then you will have to pay performance fees on the profits above the hurdle rate. 

So, how is the Performance Fee calculated?

In the same example above, let’s say the agreed performance fees is 30%, and the portfolio increases by NPR 2 Lakhs (20%), then the performance fees will be calculated as below:

(Total Portfolio Return – Hurdle Rate Return ) * Performance Fees Rate.

(2,00,000 – 80,000) * 30% = NPR 36,000/- 

This performance fee is generally deducted from your portfolio every year. 

So, how is the hurdle rate fixed?

Hurdle Rate in PMS products are usually similar to the fixed deposit rates prevalent at the time of account opening. At present, the usual hurdle rate varies from 8-10% with different service providers. 

Hurdle Rates can also be negotiated with the PMS provider during the agreement negotiation. For higher and best Hurdle Rates, contact Nabil Investment PMS team.