Q. What do you mean exactly with this excerpt from your site:
When examining example performance numbers realize annualized numbers for managers are all net of management and incentive fees. What does this mean? Those numbers reflect performance after the individual trader has taken their approximate 20-25% cut. Hypothetically, if one trend followed alone numbers would be nearly 25% higher since there are no performance fees to pay.
A. Good question. Assume a trader has generated roughly 23% a year for 25 years. The 23% is after fees. The trader takes 25% of all profits he generates. That is his fee clients pay him. The 23% number is after he takes his 25% cut. Still not clear? Let’s say the trader makes 100% on 1 million dollars over 1 year. He actually made 100% as a trend follower, but due to regulation is only allowed to report that he made 75% since 25% was his fee. By subtracting his fee it actually distorts how well he actually did.
Take for example a 20% one month return. It’s not really indicative of how successful that trader did. Take his return and divide it by (1 minus the incentive fee). 20% return for June divided by (1 minus 0.25):
0.20 / 0.75 = 0.2666 return, or really 27% for the month of June!
Why do we dig so deep into this issue? When you look at public trend following money managers realize they always win much more than the number reported!
Why This Matters When Evaluating Trend Following Performance
The fee adjustment is not a minor rounding issue. It systematically understates the actual trading performance of every managed futures operator who charges a performance fee, which is essentially all of them. The standard hedge fund fee structure of 2% management and 20-25% incentive means that every reported return number has already been reduced by the manager’s cut. When you compare a trend following CTA reporting 23% annual returns net of fees to a passive index returning 10%, you are not comparing 23% to 10%. You are comparing the underlying trading performance of roughly 30% (gross, before the 25% incentive fee) to 10%.
This distinction matters most when the question is whether trend following works as a methodology, not just whether hiring a trend following manager works as an investment strategy. The two questions are different. A manager who produces 30% gross returns and charges 25% of that gives you 22.5% net. The methodology produced 30%. The fees captured 7.5%. Both are real numbers, but the methodology number is the one that tells you whether the approach has genuine edge. The net number tells you what you keep after paying for access to that edge.
For individual traders who apply trend following rules directly to their own accounts, there are no performance fees to pay. The full gross return accrues to them. This is one of the reasons why learning to trade trend following systematically, rather than simply investing with a managed futures manager, can produce significantly better outcomes for those with the discipline and capital to implement it properly. For the specific rules that define a complete trend following system, see the TurtleTrader rules. For the full profile and documented returns of Dunn Capital specifically, see the Dunn Capital trader profile. For more on the broader managed futures landscape and how to evaluate manager performance, see the managed futures overview.
Frequently Asked Questions
What does “net of fees” mean for trend following manager returns?
Net of fees means the reported return has already had the manager’s incentive fee deducted. A manager charging 25% of profits who produces a 20% monthly return in gross terms would report approximately 15% net. The gross return, before fees, is the true measure of the trading system’s performance. The net return is what the investor receives after paying for access to that performance.
How do you calculate the gross return from a net return?
Divide the net return by (1 minus the incentive fee). For a 20% net return with a 25% incentive fee: 0.20 divided by 0.75 equals 0.2666, or approximately 27% gross. This reveals that the trading system produced 27% while the manager took 25% of that, leaving the investor with 20%.
Why do trend following managers consistently win more than reported numbers suggest?
Because reported numbers are always net of the manager’s 20-25% incentive fee. Every reported annual return understates the actual trading performance by the amount of that fee. A manager reporting 23% annual returns net over 25 years is running a system that produced roughly 30% gross annually before fees. The methodology is significantly more powerful than the net numbers alone suggest.
What is the advantage of trading trend following directly versus using a managed futures manager?
When you trade a trend following system in your own account, there are no performance fees to pay. The full gross return accrues to you rather than being shared with a manager. This requires learning and implementing the system yourself, but for those with the discipline and appropriate capital, the additional return from avoiding the 20-25% performance fee compounds significantly over time.
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