Role of managerial incentives and discretion in hedge fund performance

Using a comprehensive hedge fund database, we examine the role of managerial incentivesand discretion in hedge fund performance. Hedge funds with greater managerial incentives,proxied by delta of option-like incentive fee contracts, managerial ownership, and high-watermark provisions, are associated with superior performance. Incentive fee percentage rate byitself does not explain performance. We also find that funds with a higher degree ofmanagerial discretion, proxied by longer lockup, notice, and redemption periods, deliversuperior performance. These results are robust to using alternative performance measures,employing different econometric specifications, permitting nonlinearity for managerialdiscretion, and controlling for different data-related biases.