News flash. Successful hedge fund managers make a great deal of money. In addition the top fund managers continue to make more money than last year. The release of the Alpha magazine list of the top 25 hedge fund managers has not surprisingly attracted some attention.

Jenny Anderson at the New York Times has two pieces on the survey. The first piece profiles some of the names on the list and focuses on the fact that many of these managers made the list despite "humdrum" returns in the single digits. Previous success has allowed these "star" managers to charge fees that are far in excess of the standard "2 and 20" compensation schemes.

Many of the funds have gotten so big that the management fees alone are the source of much wealth, perhaps leaving some managers without the fire to try to outdo the broad market. Institutions like pension funds and endowments, whose money is fueling a significant part of the hedge fund boom, continue to flock to these managers for their track records and name recognition.

What is interesting is that while everyone, both fund manager and fund investor alike, all claim to want positive alpha, or risk-adjusted returns, the vast majority of fund managers are paid based on stated returns. That is they receive a management fee based on assets under management, and an incentive fee on the profits of the fund. While one can devise an incentive fee based on returns in excess of some sort of benchmark, most hedge funds shun this approach.

It should also be noted that the (widely acknowledged) original hedge fund originated by Alfred Winslow Jones charged only an incentive fee.

Jenny Anderson's second article takes to task hedge funds in general, and some specifically named, for not really protecting investors against the market's most recent slide. Her contention is that these managers are getting paid huge sums for their exposure to the market, and not for any truly identifiable skill.

…But the question that many investors should be asking is: Am I getting alpha or beta? And if the answer is beta, why the high fees?

Simply put, hedge funds that claim they are not correlated to the markets should not be correlated to the market. In bull markets, investors do not question correlation.

The problem lies in the way hedge funds have been marketed. They have been sold as less risky vehicles that can perform admirably in all market conditions. This selling proposition was addressed in an interesting paper by M. Barton Waring and Laurence B. Siegel in the March/April edition of the Financial Analysts Journal entitled, "The Myth of the Absolute-Return Investor." (Unfortunately this paper is subscriber-only.)

As one can surmise from the title the authors lay out the argument that hedge fund investing is simply a form of investing with an alternative benchmark. While we would love to excerpt widely from the article we will simply leave you with their conclusion.

But whether using the modern incarnations of the hedge fund or traditional hedge funds, the investor is looking for special skill at beating benchmarks. By definition, all investors are benchmark relative investors.

Beating a benchmark is all that matters; it is the only thing that is worth paying high fees to achieve.

The high pay of hedge fund managers will always to attract media attention. The more interesting question is whether going forward we will see more rational pay structures that genuinely reward excellence as opposed to asset gathering?