How to Calculate Hedge Fund Returns

A hedge fund is a portfolio of investments in financial vehicles such as stocks, bonds, options, commodities and currencies. A hedge fund aims to get a certain level of return on investment by using a variety of trading techniques, including leveraging, arbitrage and shorting. Hedge funds usually require participants to invest a substantial amount of money, often $250,000 to $500,000. You can calculate the return percentage of a hedge fund by using a simple formula.

Check the total value of the assets in the hedge fund at the beginning and the end of the investment period under analysis. For example, if you want to calculate the one-year return of the hedge fund, find out the value of the hedge fund at the beginning of the year and at the end of the year.

Deduct the value of the hedge fund at the beginning of the investment period from its value at the end of the period. For example, if a hedge fund begins with an asset value of $500,000 and ends with a value of $600,000, you would have $100,000.

Divide the result from Step 2 by the value of the hedge fund at the beginning of the investment value. Using the figures from the previous example, perform the following calculation: $100,000 / $500,000 = 20 percent.

Multiply the fixed-fee percentage of the hedge fund by the amount of initial investment to find the amount of fixed fee you have to pay. You pay this fee regardless of the performance of the fund. For example, if the fixed fee is 2 percent of your $500,000 initial investment, you must pay $10,000 in fixed fee. A hedge fund has two types of fees: fixed fee and management fee.

Find the amount by which the hedge fund has increased in value over the investment period. If during the investment period the hedge fund value dropped below its beginning value, you don't have to pay any management fee and can skip Step 3 to Step 5. For example, if the hedge fund's value drops from $500,000 to $400,000 in one year, you won't be charged a management fee. At the end of the next year, if the value goes up to $600,000, you have to take into account only the $100,000 increase over the initial investment.

Multiply the benchmark interest rate by the initial investment. For example, with a benchmark interest rate of 5 percent and an initial investment of $500,000, you would have a benchmark profit of $25,000.

Deduct the benchmark profit from the result you get in Step 2. Using the same example as before, you would deduct $25,000 from $100,000. This means that you will have to pay a management fee on the $75,000.

Multiply the management fee percentage by the result from Step 4. If the management fee is 10 percent, you pay $7,500.

Deduct both the fixed fee and the management fee from the value of the hedge fund at the end of the investment period. If the hedge fund's value is $600,000, then you would have $582,500 after the fees (from $600,000 minus $10,000 minus $7,500).

Find the amount by which the hedge fund value has gone up, after subtracting for fees. Using the figures from the example, you would have $82,500 (from $582,500 minus $500,000).

Divide the result from Step 7 by the initial value of the hedge fund to get the net return. In the example, you would have a return of 16.5 percent (from $82,500 / $500,000).