Hedge fund performance has, for the most part, sucked this year.  Read this article to see how the compensation schemes have done.

The standard fee schedule for a top shelf fund is 2% of the assets and 20% of the profits.  Over time, the stock market returns about 10% per year.  Under a typical fee structure for a hedge fund, to generate a 10% return after fees, the hedge fund has to return nearly 15% before fees to attain the long-run average return of stocks after fees.

For example, let's say you have $100 to invest.  On average, that $100 will be worth $110 investing in a passive stock index fund after one year.

If you are in a hedge fund that charges 2 & 20, then the fund takes 2% of your assets leaving you with $98 net of fees to invest.  To generate $10 in profits after fees, the hedge fund taking 20% of the profits has to earn a return of 12.5% for a total of 14.5% in gross return before the manager earns the 10% one can earn investing in a passive equities fund.  Thus, to add any value, the hedge fund manager has to earn at least 15% to justify your investment.

How easy is that? Warren Buffett - one of the world's greatest investors - has compounded his equity at just over 20% per year.   The average mutual fund earns 8%-9% per year.  Consistently earning more than 15% per year is extremely difficult. 

How does the hedge fund manager get to 15% or more?  A few do it by skill.  Most do it with leverage.

And we have seen how well leverage has worked in the investment business over the past few months, eh? 

You can use leverage too if you want, either through the futures market or with leveraged ETFs, as long as you can stomach the volatility.  Hedge funds used to be about not losing money.  But as the article above notes, that is certainly not the case.