Equalisation Accounting

Quantos Global Fund charges a performance fee of 20%. The independent fund administrator, NAV Consulting, uses Equalisation Accounting to achieve 2 important objectives:

  1. Maintain a single Net Asset Value per share (“Share Price”) for shares in the fund.

  2. Ensure that an investor only pays performance fee for returns he/she actually makes.

The mechanics of Equalisation Accounting can be confusing. We have therefore put up this brief note to explain the fundamentals of how Equalisation Accounting ensures each investor is treated fairly with respect to performance fees paid. 

Performance fees should only be levied on gains that an investor has made. The reference point to measure gains from is known as the individual tranche High WaterMark (“IHWM”), which would correspond with the entry Share Price. Investments made at different times will have different IHWMs. The fund, however, maintains a Fund HWM (“FHWM”) so that it can maintain a single Share Price – Objective 1 above. Because performance fees are accrued monthly, but only crystallised at year-end, the FHWM would correspond to the Share Price at the last crystallisation. To accommodate different IHWMs, certain adjustments must be made to ensure equitable treatment of investors. These adjustments are known as Equalisation Credit (EC) and Contingent Liability (CL).

 

Equalisation Credit (EC)

If your entry Share Price (eg. $1,200) is above the FHWM ($1,000), a proportion of your investment would be in the form of EC. For existing investors, they would have ($1,200-$1,000)/(100%-20%) - ($1,200-$1,000) = $50 of accrued performance fee. If the Share Price were to decline subsequently, this performance fee accrued will be reversed. A new investor should not benefit from the reversal of the accrued performance fee. Neither should the new investor pay a fee for performance he/she did not enjoy. As such, EC is issued to offset the potential reversal of the accrued performance fee in the Share Price. If the fund depreciates below your entry Share Price, EC will fall in value by the same amount as the Share Price’s reduction in accrued performance fee. If the fund appreciates above your entry Share Price, EC will maintain its value. When crystallisation happens and the FHWM resets to a higher level, some or all of the EC will be converted into shares at the new FHWM. In this example, every $1,250 of investment would translate to 1 share (worth $1,200) and $50 of EC.

Contingent Liability (CL)

If your entry Share Price (eg. $800) is below the FHWM ($1,000), your investment would have Contingent Liability (CL). For existing investors, performance fees will only be levied after the Share Price surpasses the FHWM. As a new investor, you should be separately liable for performance fees as the Share Price increases from the entry price ($800) to the FHWM ($1,000). In this example, every $800 of investment would have an accompanying maximum CL of -($1,000-$800)*20% = -$40. When the Share Price ends a calendar year above the entry price (eg. $870) or when the FHWM resets to a higher level (eg. $1050), some or all of the maximum amount of CL will be crystallised via a redemption in shares.