Hedge Funds interview preparation

Questions

100

Traced to a firm

39

Firms

16

Updated

September 2026

Asked at

All firmsMan Group10Balyasny Asset Management7Bridgewater Associates3DED.E. Shaw3Apollo Global Management2KKR2Oaktree Capital Management2Point722SCSquarepoint Capital2ACAQR Capital Management1BGBaupost Group1Coatue Management1HPS Investment Partners1Northern Trust1Viking Global Investors1Wolverine Trading1

Topic

All topicsStrategy taxonomy8Stock pitch10Short selling6Portfolio construction8Risk and drawdown8Performance and alpha7Event-driven and merger arb8Distressed and credit5Fund structure and economics7Financing, NAV and operations6Compliance and research process5Quant and systematic6India and Category III AIFs5Career and fit11

Level

AnyCoreIntermediateHard

Type

AnyTechnicalMarket viewBrainteaserCaseFit

1. 061Explain two and twenty.Fund structure and economicsCorephone / first roundFund of funds

   Say this

   A 2 percent annual management fee on assets plus a 20 percent performance fee on profits. The management fee runs the business regardless of returns; the performance fee is the incentive, and it usually only applies above the high water mark and sometimes above a hurdle.

   Then walk it

   1. Work an example so the asymmetry is visible. On 1 billion of assets that earn 10 percent gross: the management fee is 20 million, the performance fee is 20 percent of the remaining 80, so 16 million. The investor keeps 64 million, or 6.4 percent net from a 10 percent gross return. Roughly a third of the gross return goes to fees.
   2. The management fee is on assets, so it scales with asset gathering rather than with performance. That is the structural conflict at the heart of the industry, and it is why capacity discipline is a genuine signal about a manager.
   3. The performance fee is an option, not a share. The manager participates in the upside and does not pay for the downside, which is why the high water mark exists as a partial fix.
   4. Two and twenty is no longer the standard. Large institutional mandates negotiate closer to 1 and a half and 15 to 20 with hurdles, while the very best capacity-constrained funds charge much more, occasionally 3 and 30 or higher.
   5. And the pass-through model at platforms is a different animal entirely: instead of a fixed management fee, the fund charges its actual operating costs to investors, which can land well above 2 percent, and then takes a performance fee on top.
   6. The honest limitation: the headline rate tells you very little. What matters is the expense load, whether there is a hurdle, whether the high water mark is real, how often fees crystallise, and whether the fee is charged on levered or unlevered assets.

   Where candidates lose it

   Reciting the percentages without doing the arithmetic. An interviewer wants to see that you understand how much of the gross return leaves the investor, and that the management fee creates an asset-gathering incentive. Also know that pass-through expenses have largely replaced the flat 2 at the big platforms.

   Expect next

   • What gross return do you need to deliver 8 percent net?
   • What is a high water mark?
   • Why would a fund charge 3 and 30?
2. 062What is a high water mark, and why does it matter to the manager?Fund structure and economicsIntermediatetechnicalFund of funds

   Say this

   It is the highest NAV an investor's capital has previously reached, and the manager earns no performance fee until the fund climbs back above it. It matters because it turns a drawdown into a direct hit on the manager's revenue for years, not just for one bad quarter.

   Then walk it

   1. Mechanically it is per investor and per subscription, not per fund. Someone who invested at the peak and someone who invested at the trough have different high water marks, which is why the accounting is done in series or with equalisation.
   2. Worked example: the fund falls 20 percent, then rises 15 percent. The investor is still below where they started, so no performance fee is earned even though the manager had a good year. They need roughly 25 percent to get back to the mark.
   3. The business consequence is severe. A fund deep below its high water mark is running on management fee alone, so it cannot pay the team, and the good people leave. That is why funds close after a bad year instead of grinding back, and investors should read a fund closure as an economic decision, not a confession.
   4. It also creates a live incentive problem. A manager far below the mark has an option that is deep out of the money, and the rational move for the option is more volatility. Investors watch for exactly that behaviour after a bad drawdown.
   5. Partial fixes exist. Some funds offer a reduced fee below the mark to keep the team funded, some use modified marks that reset over time, and a few reset after a set period, which investors dislike for obvious reasons.
   6. Related mechanics worth naming: a hurdle rate means the fee only applies above a threshold such as cash or a benchmark, and crystallisation frequency determines how often fees lock in. Annual crystallisation with a genuine high water mark is the investor-friendly version.

   Where candidates lose it

   Describing it as a nice investor protection and stopping. The interesting content is what it does to the manager's behaviour and business: staff retention, fund closures, and the incentive to take more risk when the fee option is far out of the money. Also note it is per investor, which candidates almost always miss.

   Expect next

   • What is the incentive problem for a manager far below the mark?
   • What is a hurdle rate?
   • Why do funds close rather than trade back to the mark?
3. 063What is a pass-through expense model, and why have platforms moved to it?Fund structure and economicsIntermediatetechnicalMulti-manager platformsFund of funds

   Say this

   Instead of a fixed management fee, the fund charges investors its actual operating costs: PM and analyst compensation, data, technology, research, legal, travel. Platforms moved to it because the talent and infrastructure arms race made a fixed 2 percent uneconomic for the manager, and investors accepted it because the net returns were good enough.

   Then walk it

   1. What actually sits in it: pod team compensation including guarantees, market data and alternative data, expert networks, the risk and technology stack, execution infrastructure, legal and compliance, and office costs. At scale it has run anywhere from 3 to well over 7 percent of assets in bad years.
   2. The economic logic from the manager's side. Hiring a proven PM requires a guaranteed package, and if the fund pays that out of a fixed fee it bears the risk of the hire. Passing it through moves that risk to investors and lets the platform expand aggressively.
   3. Which is why the model and the arms race are the same phenomenon. Once one platform can bid for talent with investor money, everyone has to, and the cost base ratchets up.
   4. The investor's side is uncomfortable but rational. The cost is uncapped and disclosed after the fact, which is the opposite of a fixed fee, but the return streams have low correlation to everything else in their portfolio and they have been willing to pay for that.
   5. The consequence is that gross return requirements are high. Add pass-through costs of 5 percent to a 20 percent performance fee and the strategy has to generate a lot of gross alpha before an investor sees a good net number. That is the single best argument that the model has a capacity limit.
   6. The honest caveat: transparency varies, comparison across funds is difficult, and in a weak year the expense ratio does not fall while the return does. Investors have started to push back with expense caps and hybrid structures, which is worth mentioning because it is the live negotiation.

   Where candidates lose it

   Treating it as a technical fee detail. It is the central economic fact about the platform industry and it explains the talent market, the capacity debate and why net returns can disappoint when gross looks fine. Do the arithmetic on what gross return is needed, because that is the part that shows you understand the implication.

   Expect next

   • What gross return does a pass-through fund need to deliver 8 percent net?
   • Why do investors accept an uncapped expense?
   • Is the pod model at capacity because of fees?
4. 064Explain lock-ups, gates and redemption notice, and why a fund needs them.Fund structure and economicsIntermediatetechnicalFund of funds

   Say this

   They are the tools that match the liquidity the fund offers investors to the liquidity of what it owns. A lock-up is a period you cannot redeem at all, notice is how far ahead you must tell them, and a gate caps how much can leave at once. Without them a liquid promise on an illiquid book forces fire sales.

   Then walk it

   1. Typical terms on a liquid equity fund: monthly or quarterly liquidity, 30 to 90 days notice, maybe a one-year soft lock with a 2 to 5 percent early redemption fee that is usually paid to the remaining investors rather than the manager.
   2. Less liquid strategies ask for more: a two or three year hard lock for distressed or structured credit, annual liquidity, and longer notice. That is appropriate, not predatory, when the assets take that long to realise.
   3. A gate caps redemptions, either at the fund level, say 20 percent of NAV per quarter, or investor level, so each holder can only take a fraction of their stake at a time. It exists so that early redeemers do not force the sale of the most liquid assets and leave the stayers with the illiquid residue.
   4. That last point is the real principle: the terms protect remaining investors from each other, not just the manager from investors. Redemption is a first-mover advantage problem, exactly like a bank run.
   5. 2008 is the reference. Funds that had offered monthly liquidity on illiquid books either gated, side-pocketed or sold their best assets to raise cash. Investors learned to read the liquidity terms as carefully as the strategy description.
   6. The abuse to name, because it shows judgement: a manager who gates a genuinely liquid book to preserve fee income is a governance failure. So the real test is whether the liquidity terms match the asset liquidity. A mismatch in either direction is the warning sign.

   Where candidates lose it

   Defining the three terms and stopping, or framing them as manager-friendly restrictions. The insight is the liquidity mismatch and the first-mover problem among investors. And the diligence question is not whether a fund has gates, it is whether its terms match what it owns.

   Expect next

   • How would you test whether the terms match the assets?
   • What is an early redemption fee and who receives it?
   • What happened to funds that had gates in 2008?
5. 065What is a side pocket, and when is it used?Fund structure and economicsIntermediatetechnicalFund of fundsDistressed debt

   Say this

   A side pocket is a separate share class holding illiquid or hard-to-value positions, carved out of the main fund so that redemptions can be paid from the liquid book without touching them. Investors in the pocket at the time of the carve-out keep their share and get paid when those assets are realised.

   Then walk it

   1. The legitimate use case: a liquid fund ends up owning something genuinely illiquid, a private stake from a restructuring, a litigation claim, a stub security with no market. Side-pocketing it stops a redeeming investor from getting paid out at a mark nobody can verify.
   2. Mechanically it becomes a separate series. Existing investors are allocated their pro rata share, new investors do not participate, and the pocket is not redeemable. It is valued periodically and distributed as the assets realise.
   3. Fee treatment is the thing to ask about. The investor-friendly version charges a management fee on the side pocket at cost and only crystallises the performance fee on actual realisation. The unfriendly version charges performance fees on unrealised marks the manager sets themselves.
   4. It also solves a fairness problem in both directions. Without it, either the redeemer is overpaid on a stale mark at the expense of the stayers, or underpaid because the fund had to dump liquid assets.
   5. The abuse is well documented. 2008 saw funds move impaired assets into side pockets, which converted a temporary liquidity problem into a permanent one for investors, and some marks proved to be fiction. That is why LPs now negotiate hard caps on what percentage of the fund can be side-pocketed.
   6. So in diligence I would ask three things: the cap as a percentage of NAV, who values the pocket and whether the auditor signs the mark, and the manager's actual history of using them. A fund with a repeated pattern of side-pocketing losers is telling you something.

   Where candidates lose it

   Explaining the mechanics and missing the governance question. Every serious investor's question about side pockets is about who marks them and how fees are charged on unrealised value. Also make the fairness point in both directions; candidates usually only see that it protects the manager.

   Expect next

   • Who should value a side-pocketed asset?
   • How would you cap this in the fund documents?
   • What is the difference between a side pocket and a gate?
6. 066Explain a hurdle rate, a clawback and a crystallisation period to an investor.Fund structure and economicsHardtechnicalFund of funds

   Say this

   A hurdle is the return the fund must beat before any performance fee is earned. A clawback returns fees already paid if later losses show they were not deserved. A crystallisation period is how often the performance fee is locked in and taken. All three exist because the performance fee is an option and investors are trying to make it less of one.

   Then walk it

   1. Hurdle: typically cash, SOFR plus a spread, or a benchmark. With a 5 percent hurdle and a 12 percent return, the 20 percent fee applies to 7 points, not 12. Then ask whether it is a hard hurdle, fee on the excess only, or a soft hurdle, fee on everything once cleared. The difference is real money.
   2. Crystallisation: monthly, quarterly or annual. More frequent crystallisation favours the manager, because fees are locked in on a good quarter even if the year ends flat. Annual with a genuine high water mark is the investor-friendly standard.
   3. Worked example of why frequency matters: up 10 percent in the first half, down 10 percent in the second, roughly flat for the year. With quarterly crystallisation the manager has banked a performance fee on the first half. With annual, nothing is due.
   4. Clawback is more common in private funds than hedge funds, and it is the fix for that problem: fees paid on interim gains are returned if the final outcome does not support them, usually held in escrow.
   5. The equalisation problem sits behind all of it. Investors subscribing at different times have different high water marks, so funds either run separate series per subscription or use equalisation accounting with depreciation deposits. It is administratively ugly and it is why the administrator matters.
   6. The plain conclusion for an investor: the headline two and twenty tells you almost nothing. Hurdle type, crystallisation frequency, high water mark treatment and the expense load determine what you actually pay, and two funds with identical headline terms can differ by hundreds of basis points a year.

   Where candidates lose it

   Defining the three terms in isolation. The value of this answer is showing how they interact and which combinations transfer money to the manager. The hard-versus-soft hurdle distinction and the crystallisation frequency example are the two specifics that make it convincing.

   Expect next

   • Which is better for the investor, a hard or a soft hurdle?
   • Why is crystallisation frequency worth arguing over?
   • What is equalisation and why does it exist?
7. 067I would like you to evaluate my LP stake in a fund. How much would you be willing to pay for it?Fund structure and economicsHardsuperdayBGBaupost GroupEquity Hedge · Boston · 2018

   Say this

   I would start from reported NAV, then adjust it for three things: whether the marks are believable, what the liquidity terms let me do with it, and what fees I inherit. For a hedge fund LP interest that usually means paying a discount to NAV, and the size of the discount is the whole answer.

   Then walk it

   1. First ask what I am actually buying. A limited partnership interest in the fund, with its capital account, its high water mark, its lock-up status and its place in any side pocket. Not a portfolio of securities.
   2. Then interrogate the NAV. What percentage of the book is level one, exchange-priced and verifiable, versus level two and level three marked by the manager? I would take reported NAV on the liquid sleeve and haircut the hard-to-value sleeve materially, 20 to 40 percent depending on who marks it and whether the auditor tested it.
   3. Then the liquidity terms, which determine the discount as much as the assets. Am I locked for two more years, is there a gate, is a side pocket attached? Discount for the time I cannot get out, at my own required return. Two years locked at a 12 percent required return is roughly 20 percent of value before anything else.
   4. Then the fees I inherit. The seller's high water mark is a real asset to me: if the fund is below it, I get performance-fee-free return until it recovers, which is worth paying for. If the fund is at a peak, I inherit a full fee load.
   5. Then the qualitative discount: is the manager's team intact, is the strategy still in capacity, and why is the seller selling? Motivated sellers are the reason this market exists, and an LP selling because they know something is a genuine risk.
   6. Then say a number and defend it, because refusing to is the real failure. Something like: 'For a fund with 70 percent liquid marks, a one-year remaining lock and no side pocket, I would start around 85 to 90 percent of NAV, and I would go to 70 if a quarter of the book is level three.' Then name the one piece of information that would move the bid most, which is almost always the valuation policy on the illiquid sleeve.

   Where candidates lose it

   Answering NAV. If NAV were the answer there would be no secondary market. The analytical content is the mark quality, the liquidity discount and the inherited high water mark. And the interviewer here is explicitly testing whether you will commit to a price under uncertainty, so produce a number with a range and the reasoning behind it rather than more questions.

   Expect next

   • Why is the seller selling?
   • How much would you pay if a third of the book is level three?
   • How does an inherited high water mark change your bid?

   Reported by candidates at Baupost Group (Equity Hedge, Boston, 2018). Source: Wall Street Oasis.

Firm tags come from public, anonymous candidate reports on Wall Street Oasis: strong signal, not sworn testimony. Firms are named as the places a question was reported, not as partners of Fin Maverick. Answers are written for this page to show how to think out loud; they are not scripts to recite.