How the High-Water Mark Fee Model Works in Indian PMS

When investing in Portfolio Management Services (PMS) in India, fee structure has a large impact on final net returns. Unlike public mutual funds, which are restricted to a Total Expense Ratio (TER), PMS providers can charge performance-linked fees.

To protect high-net-worth investors, SEBI has made the High-Water Mark (HWM) model mandatory for all performance-linked fee calculations in India.

If you are looking for a fee-only SEBI Registered Investment Advisor (RIA) to evaluate your PMS agreements and model your net-of-fee returns, Find a Fee Only Investment Advisor.

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1. What is the High-Water Mark Model?

The High-Water Mark is a regulatory model for calculating performance fees.

• The Rule: A portfolio manager can only charge a performance fee on new gains that exceed the highest historical value (peak value) that the portfolio has ever achieved.
• The Goal: It ensures that you are never charged a performance fee twice on the same gains, and that the manager must recover previous losses before earning a single rupee of performance fees on new profits.

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2. A Real-World Mathematical Example

Let’s trace the fee calculation of a ₹1 Crore portfolio over a three-year period under a 20% performance fee model with a 10% annual hurdle rate (and zero fixed fee for simplicity):

graph TD
    A["Year 1: ₹1.0 Cr Invested"] -->|"Gross 15% Return"| B["Year 1 Peak: ₹1.15 Cr"]
    B -->|"20% fee on the ₹5L gain above hurdle"| C["Year 1 End Net AUM: ₹1.14 Cr"]
    C -->|"Year 2 Market Correction"| D["Year 2 End AUM: ₹90L"]
    D -->|"Year 3 Recovery"| E["Year 3 Gross: ₹1.25 Cr"]
    E -->|"Fee only after HWM and hurdle tests"| F["Year 3 fee depends on the agreement"]

Year 1: Positive Alpha

• Starting AUM: ₹1,00,00,000 (₹1 Crore).
• Hurdle Value (10%): ₹1,10,00,000.
• Year-End Gross AUM: ₹1,15,00,000 (15% gross return).
• Gain above Hurdle: ₹5,00,000.
• Performance Fee (20%): ₹1,00,000.
• Year-End Net AUM: ₹1,14,00,000.
• High-Water Mark for the next calculation: determined under the agreement and SEBI's pre-performance-fee calculation convention; in this simplified example, the relevant pre-fee peak is ₹1,15,00,000.

Year 2: Market Correction

• Starting AUM: ₹1,14,00,000.
• Year-End AUM: ₹90,00,000 (due to a market correction).
• Performance Fee: ₹0 (no gains generated).
• High-Water Mark Status: The prior pre-fee peak remains the reference point. No performance fee is charged in this loss year.

Year 3: Recovery and New Gains

• Starting AUM: ₹90,00,000.
• Year-End Gross AUM: ₹1,25,00,000.
• Gross Gain in Year 3: ₹35,00,000.
• High-Water Mark Check: The portfolio has exceeded the prior pre-fee peak.
• Fee calculation: The exact charge cannot be derived from the peak alone. SEBI's illustration applies the contractual hurdle to the return over the high-water mark, along with fixed fees, brokerage and other expenses. The signed agreement therefore determines the Year 3 performance fee.

[!NOTE] Without the High-Water Mark: The high-water mark prevents a manager from treating the entire recovery from ₹90 Lakhs as fresh performance. The precise saving depends on the hurdle and expense mechanics in the client agreement.

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3. Fixed vs. Variable Performance Fee Models

HNI investors typically choose between three fee structures in a PMS:

A. Fixed Fee Only

• Fee: Typically 2.0% to 2.5% p.a.
• Best for: Investors who expect high alpha and want to keep 100% of the returns above the fixed cost.

B. Variable/Performance Fee Only

• Fee: 0% fixed fee, 20% to 25% profit share above hurdle (usually 10%).
• Best for: Investors who want stronger incentive alignment. The manager earns no performance fee if the portfolio fails to beat the hurdle.

C. Hybrid Structure

• Fee: Lower fixed fee (e.g., 1.5% p.a.) plus a lower performance fee (e.g., 15% profit share above 10% hurdle).
• Best for: Balancing alignment with cost control.

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4. What SEBI's Rule Actually Says

The high-water mark is not an industry courtesy. SEBI's Master Circular for Portfolio Managers (16 July 2025) sets it out in plain terms:

• Performance or profit-sharing fees must be computed on the high-water mark principle over the life of the investment.
• The high-water mark is the highest value the portfolio or account has reached. The value used is the portfolio value on the date performance fees are charged.
• The frequency of charging performance fees shall not be less than quarterly.
• A performance fee can be charged only on the increase in portfolio value above the previously achieved high-water mark.
• The rule applies to discretionary and non-discretionary services, not to advisory services.
• For interim contributions or withdrawals, the high-water mark is adjusted on a proportionate basis before performance fees are charged.

SEBI's own illustration is the cleanest way to remember it. A client invests ₹50 lakh, which grows to ₹60 lakh in year one; a performance fee is payable on the ₹10 lakh return. In year two the portfolio falls to ₹55 lakh, so no performance fee is due. In year three it rises to ₹65 lakh. The performance fee is payable only on ₹5 lakh, the value above the previous ₹60 lakh peak, not on the full ₹10 lakh recovery from ₹55 lakh. (SEBI's illustration ignores the hurdle; your agreement may add one on top.)

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5. The Other Fee Rules That Sit Next to the HWM

Performance fees are only one line on your statement. SEBI's master circular also says:

• No upfront fees. A portfolio manager cannot charge upfront fees, directly or indirectly.
• Brokerage at actuals. Brokerage is charged to you as an expense, at actual cost.
• Operating expenses capped. Operating expenses excluding brokerage, over and above the portfolio management fee, cannot exceed 0.50% per annum of your average daily AUM.
• Related-party transactions capped. Charges for transactions routed through the manager or its associates (broking, demat, custody and similar) are capped at 20% by value per associate per service, at rates no higher than those paid to non-associates.
• Fees on actual AUM. All fees and charges are levied on the actual amount of your assets under management.

So a PMS with a 2% fixed fee can cost you more than 2% a year once operating expenses and brokerage are added, before any performance fee. Model the total, not the headline.

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6. Tools SEBI Gives You to Check the Maths

You do not have to take the manager's fee figure on trust:

1. Fee calculation tool. Portfolio managers must provide a fee calculation tool showing various fee options with multi-year calculations, incorporating the high-water mark where applicable. The link must be shared in advance with new clients on-boarded on or after 1 October 2024. Use it to compare fixed-only, performance-only and hybrid options over several years, including a year with a loss.
2. Quarterly fee annexure. The quarterly report to clients must include details of fee calculation, in a standard format specified by APMI in consultation with SEBI. Check that the high-water mark used matches your previous peak.
3. SEBI's worked example. SEBI's FAQs on portfolio managers include an annexure computing performance fees with an illustrative 8% hurdle, 20% performance fee, 1.5% fixed fee, 0.20% brokerage and 0.50% other expenses on an annual performance period. The numbers are SEBI's assumptions for illustration, not typical market rates, but the layout shows the order in which fees and expenses are applied.

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7. Questions to Ask Before You Pick a Fee Option

• Is the hurdle applied to the gross return, or to the return after the fixed fee and expenses?
• Is the hurdle reset each period, or does it compound from your investment date?
• How often is the performance fee charged, and on which date is the high-water mark measured?
• How exactly is the high-water mark adjusted when I add money or make a partial withdrawal?
• Is there any catch-up clause that lets the manager take a larger share of returns just above the hurdle?
• If I exit mid-period, is a performance fee charged on exit, and on what basis?

If the answers are not in the agreement or disclosure document, ask for them in writing before signing. A performance-fee option that looks cheap in a flat year can be the most expensive one after a strong year. Run both cases. If you would like a broader cost comparison, see our PMS vs mutual funds guide.

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FAQ

Is the High-Water Mark mandatory in Indian PMS?

Yes, for discretionary and non-discretionary services. SEBI requires performance-linked fees to be computed on the High-Water Mark principle over the life of the investment, and says the frequency of charging performance fees shall not be less than quarterly. Your agreement fixes the actual period; SEBI's own illustrations use an annual period.

What is a hurdle rate?

A hurdle rate is the minimum return the portfolio manager must generate before they are entitled to charge a performance fee. For example, if the hurdle rate is 10%, the first 10% of returns are completely free of performance fees.

How does cash withdrawal affect the High-Water Mark?

If you make a partial withdrawal from your PMS, the High-Water Mark is adjusted downwards on a pro-rata basis to reflect the capital withdrawn, ensuring the calculations remain fair and mathematically accurate.

Want to evaluate the net-of-fee returns of a prospective PMS contract? Find a Fee Only Investment Advisor →

Sources

• SEBI — Guidelines for Portfolio Managers (February 2020)
• SEBI (Portfolio Managers) Regulations, 2020
• Association of Portfolio Managers in India (APMI) — PMS performance disclosures
• SEBI — Master Circular for Portfolio Managers (16 July 2025), paragraphs 5.5 and 6.1.3–6.1.3A
• SEBI — FAQs on Portfolio Managers (20 September 2024), Annexure 2 performance-fee illustration