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Global Hedge Funds: Risk, Return, and Market Timing
Abstract
We examined the performance of 115 global equity-based hedge funds with reference to their target geographical markets in the seven-year period 1994-2000. Several results are noteworthy. First, global hedge fund managers do not show positive market-timing ability but do demonstrate superior security-selection ability; the Jensen's alphas we found, before and after controlling for market timing, are sizable and positive. Second, incentive fees and leverage both have a significant positive impact on a hedge fund's risk-adjusted return (as demonstrated by Sharpe ratios and Jensen's alphas) but not on a fund's "selectivity index" (i.e., its performance after controlling for market-timing effects). Third, incentive fees can lower the hedge fund's up-market and down-market systematic risk. Fourth, the size of a hedge fund is consistently related to its return performance. Finally, contrary to the general perception, leverage does not significantly affect the systematic risk of hedge funds.
... The selectivity and market timing components of returns also show a strong negative correlation with each other, which indicates that a mutual fund manager tends to focus on a particular skill from time to time. Both findings are in agreement with several previous studies in this field such as (Treynor & Mazuy, 1966;Henriksson, 1984;Chang & Lewellen, 1984;Fletcher, 1995;Fung, Xu, & Yau, 2002). ...
... They are also less liquid than mutual funds because most of them have a -lockup period‖ during which they aim to generate returns and investors cannot redeem their investment. Fung, Xu, and Yau (2002) studied a sample of 115 hedge funds from 1994 to 2000. The authors reached considerable conclusions, which highlighted the reduced capacity of managers of such funds to develop market timing strategies, despite exhibiting excellent selectivity capabilities. ...
... Accordingly, the use of daily or high frequency data for European mutual fund returns could generate different results than those in our work; because we assume that fund managers are not frequent traders, low-frequency returns are not appropriate to measure their market timing abilities. Nevertheless our results are generally in agreement with those presented by other authors, including studies by (Henriksson, 1984;Chang & Lewellen, 1984;Treynor & Mazuy, 1966) and more recently by (Fletcher, 1995;Fung, Xu, & Yau, 2002;Philippas, 2002;Tripathy, 2005;Romacho & Cortez, 2006;Cuthbertson et al., 2010), possible explanations could be identified to explain the poor market timing performance. ...
Using the models proposed by (Treynor & Mazuy, 1966; Henriksson & Merton, 1981), the present study examines the selection and timing abilities of mutual fund managers to denote the practice of these strategies as a means to achieve superior performance. For the 163 European equity mutual funds that followed active management strategies between January 2000 and December 2016, there was no evidence that fund managers used market timing abilities to anticipate the market movements. However, the selectivity component of returns presents slightly positive results, despite the poor overall performance.
... As to the market-timing ability of the fund manager, it has been measured broadly Henriksson and Merton (1981). Fung, Xu, Yau (2002) pointed out the fund manager hedges the risk in the bear market through the mechanism similar to that in the option to protect the hedge fund value. Accordingly, the market-timing ability is an important subject. ...
... Accordingly, the market-timing ability is an important subject. Fung, Xu, Yau (2002) analyzed global hedge fund performance; they confirmed the global hedge fund has the excellent ability of selecting stocks. ...
... The tests differ from earlier work because they permit identification and separation of the gains of market-timing skills from the gains of micro stock-selection skills. Fung Xu, Yau (2002) pointed out that the fund manager hedges the risk in the bear market through the mechanism similar to that in the option to protect the hedge fund value. Accordingly, the market-timing ability is an important subject. ...
Most investors ask just one thing of their mutual funds: red-hot returns. Now, in the wake of the trading scandals that harmed the shareholders of some funds, investors are also looking for fund management they can trust. But by examining the behavior of a fund's managers and directors, you can get a sense for how strongly the fund is acting in the shareholders' interest. How can you tell whether a fund is likely to put its shareholders first? Unfortunately, there's no litmus test. Nor is there a guarantee that a fund with strong policies won't mess up. This study analyzed the timing skills of fund managers and evaluated the performance of equity mutual funds and helps in understanding fund manager's performance by providing a link between timing skills of fund manager & mutual fund performance. The study analyzed that the timing abilities of fund managers of the private equity mutual funds (foreign, domestic & joint venture equity mutual funds) are far superior compared to the market timing abilities of the PSU managed equity mutual funds. The study also reveals that there is a positive relationship between timing skills & excess returns.
... Furthermore, we find that less than 5% of our funds demonstrate market timing ability with statistical significance, which is similar to the 6.6% in Cao and Jayasuriya (2012) for emerging market hedge funds and the 2% in Fung et al. (2002) for global hedge funds. This result, however, is in stark contrast with the findings on managed portfolios in the United States. ...
... Thus, including them would result in a negative or lower adjusted R 2 . The adjusted R 2 s for the Sharpe ratio, four-factor ␣, and TM ␣ are comparable with those reported in Fung et al. (2002). However, the adjusted R 2 s are not very high for other risk-adjusted performance measures. ...
We examine the performance and market timing ability of actively managed Chinese stock mutual funds and investigate how fund characteristics and fund flows relate to performance and market timing ability. Based on daily return data and several four-factor models, only about 7.5% of these funds have statistically significant risk-adjusted abnormal returns and even fewer demonstrate market timing ability. After controlling for fund size, management fees, average amount, and volatility of fund flows, older funds show higher Sharpe ratios. Our evidence also reveals the volatility of fund flows has an inverted-U shape relationship with fund performance.
... Leurs sontégalement reconnues des compétences en matière de stock picking (Fung et al. [2002a] [85]) et de market timing (Cao et al. [2013] [47], Cave et al. [2012] Pour la finance classique, ou disons le modèle standard, leurs « talents » sont clairement au service de la stabilisation des marchés. Pour s'en convaincre, citons l'argument de Friedman [1953] [84], pilier de ce raisonnement : « People who argue that speculation can be destabilizing seldom realize that this is largely equivalent to saying that speculators lose money, since speculation can be destabilizing in general only if speculators sell when the currency is low in price and buy when it is high ». ...
... De ce point de vue la « neutralité » des fonds de gestion alternative apparaît moins une réalité qu'un objectif, voire un argument marketing. Si leurs compétencesà produire du rendement absolu età « timer » le marché semblent avérées(Fung et al. [2002a][85],Cao et al. [2013][47], Cave et al.[2012][56]), l'analyse plus approfondie des moments des rendements montreégalement des risques mal appréhendés par les mesures standards, phénomène associéà l'intense utilisation de produits dérivés.Par ailleurs, la mise en perspective de la liquidité des marchés et de la performance des fonds y suggère effectivement une grande sensibilité de leur part(Khandani et Lo [2008][124],Boyson et al. [2010] [31],Sadka [2010][163],Billio [2012][27]), que traduit l'intensité de l'autocorrélation des rendements d'indices(Getmansky et al. [2004][96]). Si ceux-ci apportent de manière générale de la liquidité au marché, cela ne semble pas se vérifier en temps de crise(Jylha et al. [2013][120]). ...
This PH.D thesis focuses on the contribution of sophisticated investors, i.e. hedge funds, in the dynamics of financial markets. Considering that they are key players in the price discovery and market liquidity, regarding the standard model or the behavioral critics, it provides an assessment of dynamic interdependencies between alternative management strategies and financial markets.The first three chapters put into perspective, through original econometric approaches, hedge funds strategies with market dynamics through the study of returns , volatility and co-volatilities. Based on a wide range of results, the study reveals the many causalities between funds and markets offering to the behavioral finance elements of empirical evidence of the interactions described interms of excess volatility or financial contagion. Rich in these teachings, the last chapter finally proposes a return to theoretical models of market equilibria in order to provide a mixed picture of rational speculation in its relation to market efficency.
... Agarwal and Naik (2004) A comparable study by Fung et al. (2002) used the ABS method to extract the well-known sources of risk associated with fixed-income hedge funds. The authors identified the ABS factors and could associate them with most fixed-income hedge funds. ...
This is to certify that the doctoral study by Thandi Lasana has been found to be complete and satisfactory in all respects, and that any and all revisions required by the review committee have been made. Abstract Poor hedge fund performance can impede the financial performance of an organization.
... The common investor, therefore, has a wide variety of options to choose from. Fung, Xu, and Yau (2003) have concluded with the findings that (i) Global hedge fund managers were not shown positive market timing ability, (ii) Incentive fees and leverage both were a significant positive impact on a hedge fund's risk-adjusted return but not on a fund's selectivity index, (iii) Incentive fees were lowered in the hedge fund's up-market and downmarket systematic risk. (iv)The extent of a hedge fund was consistently linked to its return performance. ...
This study examines the relationship that exists between systematic risk and return of hedge
fund strategies, namely, Equity Hedge Strategy, Event Driven Strategy, Fund of Funds
Strategy, Macro Strategy and Relative Value Strategy in comparison to S & P BSE 500,
based on data collected from Hedge Fund Research Inc. and Eurekahedge, over a period of
10 years from January 2008 to December 2017, and by using the Capital Assets Pricing
Model (CAPM), ANOVA, Regression and Correlation. The study concludes that there exists
a positive correlation between Hedge Fund Strategies and S & P BSE 500. Further, of the
five hedge fund strategies included under the study, it is observed that the Relative Value
Strategy, systematic risk and expected return have a strong relationship in between,
indicating therefore that investors may prefer to adopt Relative Value Strategy to maximize their earnings.
... Hedge funds usually take long and short positions since they are not averse to risk. Fung, Xu, and Yau (2003) have concluded with the findings that (i) Global hedge fund managers were not shown positive market timing ability, (ii) Incentive fees and leverage were a significant positive impact on a hedge fund's risk-adjusted return but not on a fund's selectivity index, (iii) Incentive fees were lowered in the hedge fund's up-market and down-market systematic risk. (iv)The extent of a hedge fund was consistently linked to its return performance. ...
This study examines the relationship that exists between systematic risk and expected return of Event Driven Hedge Strategies, namely, Special Situation Strategy, Activist Strategy, Credit Arbitrage Strategy, Merger Arbitrage Strategy, Distressed/Restructuring Strategy, and Multi-Strategy in comparison to S & P BSE 500. The data used in the study covers a period of 10 years from January 2008 to December 2017, collected from Hedge Fund Research Inc. and Eurekahedge. The data analyzed through Capital Assets Pricing Model (CAPM), ANOVA, Regression and Correlation reveals that there exists a positive correlation between Event Driven Strategies and S & P BSE 500. Further, the study reveals that out of the six Event driven strategies included in the study, it is for the Special Situation Strategy that the systematic risk and expected return have a strong relationship between. This implies that investors may prefer to adopt Special Situation Strategy over other strategies to maximize their profit.
Keywords: Event Driven Strategies, Special Situation Strategy, Eurekahedge CAPM, Regression.
... Hedge funds usually take long and short positions since they are not averse to risk. Fung, Xu, and Yau (2003) have concluded with the findings that (i) Global hedge fund managers were not shown positive market timing ability, (ii) Incentive fees and leverage were a significant positive impact on a hedge fund's risk-adjusted return but not on a fund's selectivity index, (iii) Incentive fees were lowered in the hedge fund's up-market and down-market systematic risk. (iv)The extent of a hedge fund was consistently linked to its return performance. ...
This study examines the relationship that exists between systematic risk and expected return of Event Driven Hedge Strategies, namely, Special Situation Strategy, Activist Strategy, Credit Arbitrage Strategy, Merger Arbitrage Strategy, Distressed/Restructuring Strategy, and Multi-Strategy in comparison to S & P BSE 500. The data used in the study covers a period of 10 years from January 2008 to December 2017, collected from Hedge Fund Research Inc. and Eurekahedge. The data analyzed through Capital Assets Pricing Model (CAPM), ANOVA, Regression and Correlation reveals that there exists a positive correlation between Event Driven Strategies and S & P BSE 500. Further, the study reveals that out of the six Event driven strategies included in the study, it is for the Special Situation Strategy that the systematic risk and expected return have a strong relationship between. This implies that investors may prefer to adopt Special Situation Strategy over other strategies to maximize their profit.
Keywords: Event Driven Strategies, Special Situation Strategy, Eurekahedge CAPM, Regression.
... Hedge funds usually take long and short positions since they are not averse to risk. Fung, Xu, and Yau (2003) have concluded with the findings that (i) Global hedge fund managers were not shown positive market timing ability, (ii) Incentive fees and leverage were a significant positive impact on a hedge fund's risk-adjusted return but not on a fund's selectivity index, (iii) Incentive fees were lowered in the hedge fund's up-market and down-market systematic risk. (iv)The extent of a hedge fund was consistently linked to its return performance. ...
This study examines the relationship that exists between systematic risk and expected return of Event Driven Hedge Strategies, namely, Special Situation Strategy, Activist Strategy, Credit Arbitrage Strategy, Merger Arbitrage Strategy, Distressed/Restructuring Strategy, and Multi-Strategy in comparison to S & P BSE 500. The data used in the study covers a period of 10 years from January 2008 to December 2017, collected from Hedge Fund Research Inc. and Eurekahedge. The data analyzed through Capital Assets Pricing Model (CAPM), ANOVA, Regression and Correlation reveals that there exists a positive correlation between Event Driven Strategies and S & P BSE 500. Further, the study reveals that out of the six Event driven strategies included in the study, it is for the Special Situation Strategy that the systematic risk and expected return have a strong relationship between. This implies that investors may prefer to adopt Special Situation Strategy over other strategies to maximize their profit.
Keywords: Event Driven Strategies, Special Situation Strategy, Eurekahedge CAPM, Regression.
... Hedge funds usually take long and short positions since they are not averse to risk. Fung, Xu, and Yau (2003) have concluded with the findings that (i) Global hedge fund managers were not shown positive market timing ability, (ii) Incentive fees and leverage were a significant positive impact on a hedge fund's risk-adjusted return but not on a fund's selectivity index, (iii) Incentive fees were lowered in the hedge fund's up-market and down-market systematic risk. (iv)The extent of a hedge fund was consistently linked to its return performance. ...
This study examines the relationship that exists between systematic risk and expected return of Event Driven Hedge Strategies, namely, Special Situation Strategy, Activist Strategy, Credit Arbitrage Strategy, Merger Arbitrage Strategy, Distressed/Restructuring Strategy, and Multi-Strategy in comparison to S & P BSE 500. The data used in the study covers a period of 10 years from January 2008 to December 2017, collected from Hedge Fund Research Inc. and Eurekahedge. The data analyzed through Capital Assets Pricing Model (CAPM), ANOVA, Regression and Correlation reveals that there exists a positive correlation between Event Driven Strategies and S & P BSE 500. Further, the study reveals that out of the six Event driven strategies included in the study, it is for the Special Situation Strategy that the systematic risk and expected return have a strong relationship between. This implies that investors may prefer to adopt Special Situation Strategy over other strategies to maximize their profit.
Keywords: Event Driven Strategies, Special Situation Strategy, Eurekahedge CAPM, Regression.
... In addition, many studied of the market timing ability of other investment fundsdpension funds, hedge funds, and investment newsletters, and failed to document a positive market timing ability. 15,16 Besides, Busses 7 developed a volatility timing model in which he allows mutual fund managers to forecast the market volatility rather than the market return. ...
In this study, a liquidity timing ability of mutual fund managers in emerging markets had been examined. The analysis based on three important emerging markets in ASEAN Economic Community, namely Indonesia, Malaysia, and Thailand. We found that these mutual fund managers have an ability to forecast the market wide liquidity at both aggregate level and portfolio level. Additional, the evidence suggested that the high ability fund managers can successfully manage the liquidity in all markets at portfolio level. Besides, a robustness test demonstrates a similar result.
... Grinblatt, Titman, and Wermers (1995) find that funds investing in past winner stocks providing higher returns KEYWORDS mutual funds; asset pricing; time varying beta; home bias than others. Fung, Xu, and Yau (2002) measure sizeable and positive excess returns in case of the 115 funds invest in global equity markets between 1994-2000. Kosowski (2011) argues that average underperformance of mutual funds is appropriate only for expansion periods but not during recessions. ...
We investigate the performance and time varying risk behaviour of Hungarian equity mutual funds by applying modified versions of the four-factor model applying different market proxies. We classify the funds according to their target markets (Hungary, Central and Eastern Europe [CEE], developed markets) and separate bullish and bearish periods. We find no significant excess returns for any circumstances; however, market betas are significantly different for bullish and bearish periods as well as the explanatory power of book-to-market ratio and market capitalisation. After taking into account the daily percentage changes in the number of shares outstanding we find investors’ relation to risk to be different in bearish and bullish periods.
... Evidence for market timing among hedge funds is also mixed, although more recent work indicates some market timing skill for these managers. Whereas Fung et al. (2002) do not find evidence for market timing ability among hedge funds Chen and Liang (2007) study a sample of self-declared market timing hedge funds and find evidence of market timing ability. Chen (2007), who examines the timing ability of hedge funds with regard to their focus markets, also finds evidence that a number of categories of hedge funds (CTAs and Global Macro) can successfully time certain asset markets. ...
This paper addresses a potential shortcoming in the work on the market timing ability of fund managers. We adapt the Henriksson-Merton (1981) test for market timing by relaxing a behavioral assumption that is implicit in the use of daily data. To this end, we relax the assumption that managers base their market timing decisions on daily excess returns. Instead, we use results from the literature on bull and bear markets and test whether fund managers can successfully time such trends in financial markets. We make use of a proprietary dataset of daily Commodity Trading Advisors (CTAs) returns to show that CTAs, on average, are able to time the bull and bear markets we identify.
... Using conditional multi-factor models, their study concludes that a few hedge funds categories, including convertible arbitrage funds in the high yield bond market, global macro funds in the non-US bond market and the currency market, and market timing funds in the US equity market show ability to time their focus markets at both fund and category levels. Fung et al. (2002) examine the performance of 115 global equity-based hedge funds with reference to their target geographical markets. Their study finds that global hedge fund managers demonstrate superior security-selection ability but fail to show positive market timing ability. ...
The purpose of this paper is to examine the performance of different hedge fund investment
strategies, with emphasis on the US financial crisis of 2007-2009. Additionally, the paper aims to
examine the return comovement of hedge fund indices and the return comovement between hedge
fund indices and equity indices. On evaluating the performance of 26 HFRI indices, the paper finds
three hedge fund indices namely: ED: Merger Arbitrage Index, HFRI Relative Value (Total) Index
and RV: Fixed Income-Asset Backed Index, which managed to beat the benchmark and the
category during the pre-crisis period, crisis period and the post-crisis period. In light of US
financial crisis, it finds that only four hedge fund indices recorded positive Sharpe ratios. Using
coefficient of determination, the paper concludes that hedge fund indices do not have high return
correlations with equity indices.
... The most popular market timing models derived from this measure are those of Treynor and Mazuy (1966) and Merton (1981). Fung, Xu, and Yau (2002) use the traditional capital asset pricing model (CAPM) and the Henriksson and Merton (1981) model. Aragon (2003) extends the timing model of Merton (1981) and concludes that HFM do not show any general market investment timing ability. ...
This paper summarizes the literature on hedge funds (HFs) developed over the last two decades, particularly that which relates to managerial characteristics (a companion piece covers the risk management characteristics of HFs). It classifies, the current HF literature, suggesting which critical problems have been “solved” and which problems have not been yet adequately addressed. It also discusses the effects of past financial regulation and the prospects for the effect of new financial regulation on the HF industry and its performance and risk management practices, and suggests new avenues for research. Furthermore, it highlights the importance of managerial characteristics for HF performance, and the successes and the shortfalls to date in developing more sophisticated HF-related risk management tools.
... Fung, Xu, and Yau (2002) use the ABS approach to extract the com- mon sources of risk related to fixed-income HFs 3 . This type of trading is very risky because the relative price of two assets can easily diverge. ...
This paper summarizes the literature on hedge funds (HFs) developed over the last two decades, particularly that which relates to risk management characteristics (a companion piece investigates the managerial characteristics of HFs). It discusses the successes and the shortfalls to date in developing more sophisticated risk management frameworks and tools to measure and monitor HF risks, and the empirical evidence on the role of the HFs and their investment behaviour and risk management practices on the stability of the financial system. It also classifies the HF literature considering the most recent contributions and, particularly, the regulatory developments after the 2007 financial crisis.
... Like to the results reported in (Panel A), it is true that the average gammas for the overall funds and both conventional and Islamic ones are insignificantfor the 2007-2008 periods, except for the previously five fund groups in Oman, Bahrain, and Qatar, where Gamma coefficients are negative and statistically significant, but because the estimated coefficients of the dummy variable for the whole funds groups across the same two years period are insignificant as well; it finally means that on average too fund managers cannot anticipate their market movements during and after the (FC) referring that (FC) has no impact on the managers' performance. This result are also consistent with the findings of Fung et al., (2002) ;French & Ko (2007) and Park (2010) who show that there is no statistically significant evidence of market timing for fund managers across the (FC). ...
From five Gulf countries over the 2007-2012 period, this paper offers a comprehensive investigation for these managerial skills during and after the Financial Crisis (FC) of 2007- 2008; it also inspects the relative differences in performance between equity conventional mutual funds (CMFS) and Islamic ones. The results show no evidence of over-or-under performance for the fund managers due to these two skills, where there are no structuralchanges for the regression line across the two sub-periods, but it reveals the superiority of equity CMFS performance in Kuwait in particular along the overall period. Thus, it seemsthat if the investors cannot gain superior returns by investing in the Gulf mutual funds on general, they may attain a comparative advantage by investing in the conventional fundsagainst the Islamic ones especially in Kuwait. It also implies that the ethical screening, which is adopted by the Islamic funds of Kuwait, already limits their diversification opportunities and then adversely affects their performance.JEL classification: G1; G2Keywords: Capital markets, Islamic mutual funds, performance evaluation, market timing ability, stock picking ability
... In their sample from 1994 to 2005, they find evidence of market-timing ability at both the fund and aggregate levels. In contrast, Fung et al. (2002) find that global hedge fund managers do not show market-timing ability in their 1994-2000 sample of 115 funds and Chen (2007) finds limited evidence of market-timing ability across nine hedge fund styles. ...
Defining systematic risk management (SRM) skill as persistently low fund systematic risk, we find evidence of time varying allocation of hedge fund management effort across the business cycle. In weak market states, skilled managers focus on minimization of systematic risk via dynamic reallocations across asset classes at the cost of fund alpha and foregoing market timing opportunities. As markets strengthen, attention shifts to asset selection within consistent asset classes. The superior performance of low systematic risk funds previously documented arises due to the superior asset selection ability of managers in strong market states. Incremental allocations by investors arise due to this superior performance and not due to recognition of SRM skill.
... The empirical evidence generally seems to support this intuition. Fung, Xu, and Yau (2002) examine global hedge-fund managers and conclude that they do not show positive market timing ability, but have superior security-selection ability. Aragon (2005) finds that funds of funds do not exhibit timing ability, but that market-timing ability is positive for funds holding the most liquid portfolios and negative for funds holding the most illiquid portfolios. ...
The hedge-fund industry has grown rapidly over the past two decades, offering investors unique investment opportunities that often reflect more complex risk exposures than those of traditional investments. In this
article we present a selective review of the recent academic literature on hedge funds as well as updated empirical results for this industry. Our review is written from several distinct perspectives: the investor's, the
portfolio manager's, the regulator's, and the academic's. Each of these perspectives offers a different set of insights into the financial system, and the combination provides surprisingly rich implications for the
Efficient Markets Hypothesis, investment management, systemic risk, financial regulation, and other aspects of financial theory and practice.
... Many authors have argued against the ability of fund managers to accurately anticipate the behaviour of the market (Knigge et al. 2004) and Fung et al. (2002)). Also the work by Roy and Deb (2004) found that there does not exist significant market timing coefficients. ...
This paper considers basically the validity of active investment fund management especially as it concerns generating more profit for an investor. The paper recognises that in other to fully appreciate the validity of active investment fund management it should be compared with passively managed funds. Both forms of fund management have their merits and demerits. The paper therefore, goes into detail in comparing and contrasting the advantages and disadvantages of both forms of funds management. The paper concludes by noting that actively managed funds have a higher potential of yielding better returns in an inefficient market. It further recognises that it may be better to adopt passive management strategy in a highly efficient market. However, the final choice of which among these two strategies to adopt rests with the investor' expectations and what he intends to make out of his investment.
While it is established that idiosyncratic volatility is negatively priced in the cross-section of stock returns, the relation between idiosyncratic volatility and hedge fund returns is largely unexplored. We document that hedge funds with high idiosyncratic volatility earn higher future risk-adjusted returns of 6 percent p.a. than hedge funds with low idiosyncratic volatility. The outperformance arises because hedge funds trade high idiosyncratic volatility stocks wisely. They pick high volatility stocks when they are underpriced and short-sell high volatility stocks when they are overpriced. Our results support the notion that hedge funds’ idiosyncratic volatility is a measure of managerial skill.
We examine whether estimates of hedge fund performance reported in prior empirical research are affected by publication bias. Using a sample of 1019 intercept terms from regressions of hedge fund returns on risk factors (the “alphas”) collected from 74 studies published between 2001 and 2021, we show that the selective publication of empirical results does not significantly contaminate inferences about hedge fund returns. Most of our monthly alpha estimates adjusted for the (small) bias fall within a relatively narrow range of 30–40 basis points, indicating positive abnormal returns of hedge funds: Hedge funds generate money for investors. Studies that explicitly control for potential biases in the underlying data (e.g., backfilling and survivorship biases) report lower but still positive alphas. Our results demonstrate that despite the prevalence of publication selection bias in many other research settings, publication may not be selective when there is no strong a priori theoretical prediction about the sign of the estimated coefficients.
This paper addresses two key issues relating to the interactions among the North American hedge funds industry, the equity and treasury bond markets during the COVID-19 pandemic. First, we examine the market-timing ability of North America hedge fund managers using eight strategies as well as the composite hedge fund index. Secondly, we analyze both the short- and long-term effects of both the North American equity and bond markets on the performance of the regional hedge funds industry while accounting for the effects of COVID-19 pandemic. Our results show no significant evidence of market return-timing ability of hedge fund managers across all the funds strategies during the pandemic. However, we document a strong evidence of the effects of the pandemic on the performance of fund managers, except for the Managed Futures and the Relative Value funds strategies. Secondly, we demonstrate that the COVID-19 pandemic may have significantly altered the long-term effects of the North American equity market on the performance of the hedge fund industry while the effects of the bond market is only significant in the short-term. We outlined some crucial implications of these findings for the decision-making process of hedge fund managers, investors as well as market makers during a health crisis-induced financial market turbulence.
Yatırım fonları, tasarruf sahiplerine fonlarını iyi çeşitlendirilmiş portföylere yatırım yapabilme fırsatını sağlayarak yatırımcıların piyasaya katılımını artırmaktadır. Fonların yatırımcılar açısından cazip bir yatırım aracı olarak algılanması, fonların göstermiş oldukları performansla doğrudan ilişkilidir. Fon performansını etkileyen birçok etken bulunmaktadır. Fon yöneticilerinin piyasa zamanlama yetenekleri de bu etkenlerden biridir. Yapılan çalışmada Türkiye’de işlem gören pay senedi fonlarının performansının zamanlama yeteneği açısından değerlendirilmesi amaçlanmıştır. Bu amaç doğrultusunda, 2008-2018 yılları arasını kapsayan dönem için 18 adet fonun aylık verileri kullanılarak piyasa zamanlaması performansları çeşitli modeller ile analiz edilmiştir. Klasik piyasa zamanlaması modelleri uygulandığında; fonların önemli bir kısmının piyasa zamanlama yeteneğine sahip olmadığı sonucuna ulaşılmıştır. Volatilite zamanlaması performansı, farklı piyasa koşullarında zamanlama performansı, aktif ve pasif portföy yönetiminin zamanlama performansına etkisi modellerinde ise farklı sonuçlar elde edilmiştir.
This statistical study refines and updates Sharpe’s empirical paper (1975, Financial Analysts Journal) on switching between US common stocks and cash equivalents. According to the original conclusion, profitable market timing relies on a representative portfolio manager who can correctly forecast the next year at least 7 times out of 10. Four changes are made to the original setting. The new data set begins and ends with similar price-earnings ratios; a more accurate approximation of commissions is given; the rationality of assumptions is examined; a prospective and basic Monte Carlo analysis is carried out so as to consider the heterogeneous performance of a number of portfolio managers with the same forecasting accuracy. Although the first three changes improve retrospectively the odds of profitable market timing, the original conclusion is corroborated once more.
This paper studies the level, determinants, and implications of the factor timing ability of hedge fund managers. We find that approximately 34% of hedge funds display factor timing ability on at least one factor over the full sample, concentrated especially at the market, size, and bond factors. Better factor timing skills are on average related to funds that are more experienced and more flexible, but the cross-factor heterogeneity is considerable. Factor timing is associated with outperformance; the top factor timing funds outperform the bottom factor timing funds with a significant 4.32% per annum. Timing skills, though, do not directly lead to higher net flow.
Funds of hedge funds (FOFs) have been depicted as a type of conservative vehicle to many institutional and retail investors for accessing hedge fund investment. We challenge this view by investigating the role of tail risk exposure in FOFs. We find that the tail risk exposure determines a fund’s return and significantly influences a fund’s performance over one to three-month horizon. In particular, we find that the marginal extreme losses to one unit change of tail risk exposure in bear markets nearly double the marginal extreme gains in bull markets. This non-linear payoff structure must be evaluated carefully by anyone who wishes to invest in FOFs.
We reconsider whether hedge funds’ time-varying risk factor exposures are predictive of superior performance. We construct an overall measure (BA) of fund managers and present evidence that top beta active managers deliver superior long-term out-of-sample performance compared to top alpha active managers. BA captures the time-varying nature of beta exposures and can be interpreted as a common factor of both systematic risk (SR) and (1 - R² ) measures. BA also compares favorably to extant measures of market timing, capturing the explanatory power of such measures of hedge fund performance.
We propose in this article a novel ability parity model for optimal fund allocation. Compared with the traditional portfolio selection methods which directly work on asset returns and/or risk (volatility), the proposed ability parity method focuses mainly on the allocation between the stock selection ability and market timing ability of fund managers, which essentially determines fund performance (Fama, 1972). Using the data of China's mutual fund markets, we find strong and robust evidence that the proposed ability parity model delivers significantly higher return, skewness, and Sharpe ratio than traditional models and the benchmark index, while having volatilities comparable with traditional models.
The investment management industry is dominated by three kinds of service providers. Indexers offer to reproduce the performance of a benchmark. This service appeals to the most risk-averse investor, or the investor who believes that financial markets are perfectly efficient. A second category of service providers, hedge funds, is marketed to aggressive investors, and many (though not all) are very volatile. This category is often considered inappropriate by fiduciaries responsible for institutional funds, though making small allocations to “alternative investments” is becoming more accepted. The third category, core products, offers a product with modest tracking risk in exchange for modest outperformance of a benchmark. The distinction between hedge funds and core products is less substantial than is commonly supposed. Most core managers could easily compete in offering hedge funds. A typical hedge fund manager could easily convert his fund into a core product offering. Clients with funds to be managed really need only two kinds of investment management service providers. The first is indexers, who offer benchmark replication services and compete for business based on low fees and low costs. If the industry evolution contemplated in this chapter were to happen, the second would be “alpha providers,” who would manage against a cash bogie and who would offer added return in exchange for added volatility. Alpha providers would mainly compete for business, as their active precursors today do, based on their information ratios. The investment management industry may evolve toward this model, making present-day hedge fund managers and core managers obsolete.
Purpose
The purpose of this paper is to present and demonstrate how the use of a multifactor model in the analysis of market timing skill can be misleading because the use of a multifactor model does not suit all investment styles equally well. If the factors of the analysis model do not span the portfolio holdings of a fund with less conventional investment strategy, the use of a multifactor model may even deteriorate the overall inference in measuring the market timing skill of a large sample of funds.
Design/methodology/approach
This study investigates the limitations of multifactor models in the analysis of market timing skill by applying the traditional Treynor-Mazuy and Henriksson-Merton analysis models of market timing skill using a set of “placebo” funds which are “natural” passive market timers.
Findings
The results of the study show that the incorporation of the Carhart four-factor model into the analysis of market timing skill considerably reduces the percentage of significant market timing results. But, as expected, the reduction of bias is not equal for different investment styles, and it works best when the factors of the analysis model are related to the investment style of the placebo portfolio.
Practical implications
This style-related limitation of multifactor models in the analysis of market timing skill may result in detecting funds with less conventional investment strategies as market timers since the factors used in the analysis are not likely to span their investment styles.
Originality/value
This study shows that the use of a multifactor model may lead to inferring passive market timers with less conventional investment styles as market timers. In addition, the findings of the study leave option replication approaches as more preferable bias corrections than multifactor extensions.
We propose using ETF returns as proxies for tradable risk factors in hedge fund performance evaluation, identifying contemporaneously relevant risk factors from the entire universe of ETFs. Our model provides more informative estimates of alpha and beta coefficients for predicting hedge fund out-of-sample performance compared with other widely used hedge fund factor models. Portfolios of top alpha hedge funds selected by our model generate statistically significant out-of-sample performance that is substantially higher compared with portfolios selected by other models. In addition, our beta-weighted clone portfolios exhibit substantially higher out-of-sample correlations with underlying hedge funds than clone portfolios formed using alternative models.
We study whether pension fund managers, as professionals of important social and financial products, are able to add value for their clients and adapt to economic changes. To this end, we analyze the performance and skills (market timing and stock picking) over the economic cycle from both pension fund and manager perspectives. This double analysis allows examining whether skills reside in managers and/or funds and control for manager substitutions. Despite the long-term nature of pension funds, we find that both fund and manager skills vary with market conditions, showing better evidence of stock-picking in booms, and of market timing in recessions. Nonetheless, top (bottom) funds and managers exhibit both (incorrect) skills in booms and in recessions. Some of the top (bottom) funds and managers are the best (worst) in both abilities in the same periods, but not in different periods, showing that not all managers have the ability to adapt to market conditions. Additionally, managers with limited skills tend to specialize because diversification requires multi-task skills and the non-specialization of these managers usually results in incorrect skills.
Purpose – The purpose of this paper is to examine the ability of hedge funds and funds of hedge funds to generate absolute returns using fund level data. Design/methodology/approach – The absolute return profiles are identified using properties of the empirical distributions of fund returns. The authors use both Bayesian multinomial probit and frequentist multinomial logit regressions to examine the relationship between the return profiles and fund characteristics. Findings – Some evidence is found that only some hedge funds strategies, but not all of them, demonstrate higher tendency to produce absolute returns. Also identified are some investment provisions and fund characteristics that can influence the chance of generating absolute returns. Finally, no evidence was found for performance persistence in terms of absolute returns for hedge funds but some limited evidence for funds of funds. Practical implications – This paper is the first attempt to examine the hedge fund return profiles based on the notion of absolute return in great details. Investors and managers of funds of funds can utilize the identification method in this paper to evaluate the performance of their interested hedge funds from a new angle. Originality/value – Using the properties of the empirical distribution of the hedge fund returns to classify them into different absolute return profiles is the unique contribution of this paper. The application of the multinomial probit and multinomial logit models in the fund performance and fund characteristics literature is also new since the dependent variable in the authors' regressions is multinomial.
This paper summarizes the literature on hedge funds (HFs) developed over the last two decades, particularly that which relates to managerial characteristics (a companion piece covers the risk management characteristics of HFs). It classifies, the current HF literature, suggesting which critical problems have been " solved " and which problems have not been yet adequately addressed. It also discusses the effects of past financial regulation and the prospects for the effect of new financial regulation on the HF industry and its performance and risk management practices, and suggests new avenues for research. Furthermore, it highlights the importance of managerial characteristics for HF performance, and the successes and the shortfalls to date in developing more sophisticated HF-related risk management tools. JEL Classification Code: G20, G23
We study the determinants of flows and their impact on managers’ abilities in UK conventional and socially responsible (SR) pension funds. We examine three aspects barely documented in pension funds. First, flows may be affected by the fact that pension fund investors are restricted because they cannot disinvest until retirement, although they can switch the investment to another fund. Second, as both pension funds and SR funds are concerned with social welfare, SR pension funds present a special social interest and possibly different behavior. Third, the influence of flows on style timing abilities, as far as we are aware, has not been studied before. Our results indicate that both pension funds experience greater flows when they are younger and smaller, and have received flows in the past. Managers present negative stock-picking and poor timing abilities, independently of flows.
The main aim of this paper is to analyze if pension funds managers are able to implement style tuning strategies, one topic very important for an efficient management of an investment portfolio. Besides it is analyzed the stock-picking abilities of these managers. To this end, conditional and multifactorial versions of the market timing models of Treynor & Mazuy and of Merton & Henriksson are implemented for a pension fund sample from Spain and United Kingdom. The results obtained are very similar in both markets and indicate that both, the British and Spanish pension funds managers in our sample, show stock-picking ability and are able to time the book-tomarket style. However the results indicate a perverse timing ability with regards to size and momentum styles. Copyright © 2001 Associatión Española de Contabilidad Administratión de Empresas.
This paper undertakes to investigate the effectiveness of market timing between prior winners and losers in the global equity markets using Monte Carlo simulation over the period from 1 January 1999 to 31 December 2009. The winner and loser portfolios of 100 stocks are constructed based on the prior 36-month U.S. dollar returns of the Dow Jones (DJ) Sector Titans Composite constituents. The market timer is assumed to have varying accuracy in predicting market persistence and mean reversion, and switch between the winner and loser portfolios on a quarterly basis based on his/her predictions. Sensitivity analysis is conducted to determine whether it is more important to predict the timing of persistence versus mean reversion. The study results reveal that an effective market timing strategy could be devised for market timers with modest ability to predict the timing between global equity market persistence and mean reversion. Greater benefits are derived from improvements in the mean reversion timing accuracy versus persistence timing accuracy, even though only 19 out of 44 quarters are classified as periods of mean reversion in the examination period. The results from sensitivity analysis support the view that it is more important to predict the timing of mean reversion correctly than persistence. This outcome could be attributed to the resilient nature of the loser portfolio in turbulent times. The observation that the majority of the persistent quarters are bullish (65.52%) while the majority of the mean reversion quarters are bearish (60%) provides evidence of investor overreaction in the global equity markets.
Good market timing skills can be an important factor contributing to hedge funds' outperformance. In this chapter, we use a unique semiparametric panel data model capable of providing consistent short period estimates of the return correlations with three market factors for a sample of Long/Short equity hedge funds. We find evidence of significant market timing ability by fund managers around market crisis periods. Studying the behavior of individual fund managers, we show that at the 10% significance level, 17.12% of funds exhibit good linear timing skills and 21.32% of funds possess some level of good nonlinear market timing skills. Further, we find that market timing strategies of hedge funds are different in good and bad markets, and that a significant number of managers behave more conservatively when the market return is expected to be far above average and more aggressively when the market return is expected to be far below average. We find that good market timers are also likely to possess good stock selection skills.
Recent studies have documented that it is only very recently that the Emerging Market Hedge Funds (EMHFs) have started mimicking the performance pattern of regular Hedge Funds. These findings therefore motivate us to analyze the market timing and security selection skills of EMHF managers. Rolling regression technique is employed to analyze the above mentioned issues on a time-varying dimension. The rolling market timing regression results suggest that the EMHF managers do not exhibit consistently superior security selection or market timing skills even in an up-market scenario. The static market timing models however, indicate significant outperformance due to superior security selection and significant underperformance due to perverse market timing for the EMHFs in general. Multifactor asset class regressions, using fund-level data, reaffirm the notion that the EMHFs mimic the performance pattern reported for mutual funds in the mutual fund literature.
El objetivo fundamental de este trabajo es analizar si los gestores de fondos de pensiones son capaces de implementar estrategias de sincronización respecto a diferentes estilos de inversión, aspecto fundamental en la gestión eficiente de una cartera de inversión. También se analizan las habilidades de dichos gestores para seleccionar adecuadamente los valores que componen sus carteras. Para tal fin se implementan para una muestra de fondos de pensiones de España y Reino Unido, versiones multifactoriales y condicionales de los modelos de sincronización con el mercado de Treynor & Mazuy y de Merton & Henriksson.Los resultados alcanzados son muy similares en ambos mercados. Se obtiene una correcta habilidad de selección de valores y de sincronización respecto al estilo book-to-market y una habilidad negativa para sincronizar los estilos tamaño y momentum a 1 año.ABSTRACTThe main aim of this paper is to analyze if pension funds managers are able to implement style timing strategies, one topic very important for an efficient management of an investment portfolio. Besides it is analyzed the stock-picking abilities of these managers. To this end, conditional and multifactorial versions of the market timing models of Treynor & Mazuy and of Merton & Henriksson are implemented for a pension fund sample from Spain and United Kingdom.The results obtained are very similar in both markets and indicate that both, the British and Spanish pension funds managers in our sample, show stock-picking ability and are able to time the book-to-market style. However the results indicate a perverse timing ability with regards to size and momentum styles.
The purpose of this book is to present the principles of alternative investments in management. The individual chapters provide a detailed analysis of various classes of alternative investments on the financial market. Despite many different definitions of alternative investments, it can be assumed that a classical approach to alternative investments includes hedge funds, fund of funds (FOF), managed accounts, structured products and private equity/venture capital. Alternative investment in keeping with this broad definition is the subject of consideration here. The theoretical part of each chapter is meant to collect, systematize and deepen readers’ understanding of a given investment category, while the practical part of each focuses on an analysis of the current state of development of alternative investments on the global market and outlines the prospects of future market development. This book will be a valuable tool for scholars, practitioners and policy-makers alike.
This article examines the historical performance of hedge funds domiciled in China in the aspect of return characteristics and risk exposures. Using data from the Morningstar China hedge fund database, we find that these funds do not exhibit common features such as negative skewness and large kurtosis as proposed by the literature. Our results show that these funds have a significant exposure to market factors but little exposure to the other commonly known factors. In addition, our results suggest Chinese hedge funds are exposed mainly to the local equity market only. The study additionally finds no excess returns in Chinese hedge funds. The results of this research provide some insights into the characteristics of the hedge fund industry in China where the economic and regulatory conditions are distinct from other markets.
The impact of the recent global financial crisis has been deep and broad, blanketing the financial and economic landscape and hammering the hedge fund industry. Using both active and inactive hedge fund return data from the CISDM database from January 1994 to March 2009, the authors measure survivorship bias and account for the attrition rates of hedge funds before and during the crisis. In contrast to their expectations, they do not find survivorship bias to be notably significant during the global financial crisis. However, they discover unprecedented attrition rates, along with record declines in assets under management and fund closures, during the crisis. In addition, the authors’ results from the pre-crisis period reveal that survivorship bias and attrition differ dramatically by strategy and size, yet this pattern disappears during the global financial crisis, as all strategies and sizes experienced unprecedented attrition, indicating that few funds were spared the crisis.
Using a large database, I studied hedge fund performance and risk during an almost 10-year period from 1990 to mid-1999. The empirical results show that hedge funds had an annual return of 14.2 percent in this period, compared with 18.8 percent for the S&P 500 Index. The S&P 500 is much more volatile, however, than hedge funds as a whole. Annual survivorship bias for hedge funds was 2.43 percent. I examined year 1998 in detail because hedge funds were heavily affected by the global financial market tumble in that year. For example, the highest volatility for hedge fund returns occurred in 1998, and more funds died and fewer were born in 1998 than in any other year of the period studied. Few funds changed their fee structures. In those that did, the fee changes were performance related; poor performers lowered their incentive fees.
Investors in hedge funds and commodity trading advisors [CTA s] are naturally concerned with risk as well as return. In this paper, we investigate risk of hedge funds and CTA s in light of managerial career concerns. We find an association between past performance and risk levels consistent with Brown, Harlow and Starks (1996) findings for mutual fund managers. Good performers in the first half of the year reduce the volatility of their portfolios, and poor performersincrease volatility. These variance strategies" depend upon the fund s ranking relative to other funds. The importance of relative rankings as opposed to the absolute ranking suggested by analysis of hedge fund and CTA manager contracts points to the importance of reputation costs.These costsare best thought of in the context of the career concerns of managers and the relative importance of fund termination. We analyze factors contributing to fund disappearance. Survival depends on both absolute and relative performance. Excess volatility can also lead to termination. Finally, other things equal, the younger a fund, the more likely it is to disappear from the sample. Therefore our results strongly confirm an hypothesis of Fung and Hsieh (1997b) that reputation costs have a mitigating effect on the gambling incentives implied by the manager contract. Particularly for young funds, a volatility strategy that increases the value of a performance fee option may lead to the premature death of that option through termination of the fund. The finding that hedge fund and CTA volatility is conditional upon past performance has implications for investors, lenders and regulators. An important result of our finding is that variance strategy depends upon relative rather than absolute
This study examines the performance of sixteen different hedge fund and commodity fund investment styles during rising and falling stock prices over the period 1990:01 through 1998:08. Since a primary motivation for investing in hedge funds and commodity funds is to diversify against falling stock prices, it is important to examine the performance of these funds during bear stock markets. The study evaluates hedge funds and commodity funds both as stand-alone assets and as portfolio assets, and in both bull and bear stock markets. In addition, it utilizes the Sharpe ratio as well as alternative safety-first performance criteria to evaluate the funds. We conclude that commodity funds generally provide greater downside protection than do hedge funds. Commodity funds have higher returns in bear markets than do hedge funds, and generally have an inverse correlation with stock returns in bear markets, while hedge funds typically exhibit a higher positive correlation with stock returns in bear markets than in bull markets. However, three hedge fund styles - market-neutral, event-driven, and global macro - provide fairly good downside protection while still providing more attractive returns over all markets than do commodity funds.
This study examines the selectivity and market-timing ability of international mutual fund managers. Ninety-seven international mutual funds with a minimum of five-year return history selected from the Morningstar OnDisc database are analyzed. Our findings suggest that managers of international mutual funds possess good selectivity and overall performance. We also find weak evidence of poor market-timing ability. Consistent with prior findings from domestic mutual funds, there is a negative correlation between the international fund managers' selection ability and market-timing ability. Finally, managers for Europea funds show poorer performance than those managing the other three international fund groups.
Existing studies of mutual fund market timing analyze monthly returns and find little evidence of timing ability. We show that daily tests are more powerful and that mutual funds exhibit significant timing ability more often in daily tests than in monthly tests. We construct a set of synthetic fund returns in order to control for spurious results. The daily timing coefficients of the majority of funds are significantly different from their synthetic counterparts. These results suggest that mutual funds may possess more timing ability than previously documented.
Since hedge funds specify significant lock-up periods, we investigate persistence in the performance of hedge funds using a multi-period framework in which the likelihood of observing persistence by chance is lower than in the traditional two-period framework. Under the null hypothesis of no manager skill (no persistence), the theoretical distribution of observing wins or losses follows a binormial distribution. We test this hypothesis using the traditional two-period framework and compare the findings with the results obtained using our multi-period framework. We examine whether persistence is sensitive to the length of return measurement intervals by using quarterly, half-yearly and yearly returns. We find maximum persistence at the quarterly horizon indicating that presistence among hedge fund managers is short term in nature.
This paper presents a parameter covariance matrix estimator which is consistent even when the disturbances of a linear regression model are heteroskedastic. This estimator does not depend on a formal model of the structure of the heteroskedasticity. By comparing the elements of the new estimator to those of the usual covariance estimator, one obtains a direct test for heteroskedasticity, since in the absence of heteroskedasticity, the two estimators will be approximately equal, but will generally diverge otherwise. The test has an appealing least squares interpretation.
This paper investigates the returns on British collectible postage stamps over the very long run, based on stamp catalogue prices. Between 1900 and 2008, we find an annualized return on stamps of 6.7% in nominal terms, which is equivalent to an average real return of 2.7% per annum. Prices have increased much faster in the second half of the 1960s, the late 1970s, and the current decade. However, we also record prolonged periods of real depreciation, for example in the 1980s. As a financial investment, stamps have outperformed bonds, but underperformed stocks. After unsmoothing the returns on stamps, we find that the volatility of stamp prices approaches that of equities. There is mixed evidence that stamps are a good hedge against inflation. Once the problem of non-synchronous trading is taken into account, stamp returns seem impacted by movements in the equity market.
Using data on the monthly returns of hedge funds during the period January 1990 to August 1998, we estimate six-factor Jensen alphas for individual hedge funds, employing eight different investment styles. We find that about 25% of the hedge funds earn positive excess returns and that the frequency and magnitude of funds’ excess returns differ markedly with investment style. Using six-factor alphas as a measure of performance, we also analyze performance persistence over 1-year and 2-year horizons and find evidence of significant persistence among both winners and losers. These findings, together with our finding that hedge funds that pay managers higher incentive fees also have higher excess returns, are consistent with the view that fund manager skill may be a partial explanation for the positive excess returns earned by hedge funds.
The authors examine the performance of the off-shore hedge fund industry over the period 1989 through 1995 using a database that includes both defunct and currently operating funds. The industry is characterized by high attrition rates of funds, low covariance with the U.S. stock market, evidence consistent with positive risk-adjusted returns over the time, and little evidence of differential manager skill. Copyright 1999 by University of Chicago Press.
This article empirically examines market timing and selectivity performance of a sample of mutual funds. It uses a very simple regression technique to separate stock selection ability from timing ability. This technique, first suggested by Treynor and Mazuy and later refined by Bhattacharya and Pfleiderer, uses a modified security-market line approach to produce individual measures of timing and stock selection ability. The inputs to the model are only the returns earned on the fund and those earned on the market portfolio. The empirical results indicate that at the individual fund level there is some evidence of superior micro- and macroforecasting ability on the part of the fund manager. Copyright 1990 by the University of Chicago.
Hedge fund strategies typically generate option-like returns. Linear-factor models using benchmark asset indices have difficulty
explaining them. Following the suggestions in Glosten and Jagannathan (1994), this article shows how to model hedge fund returns by focusing on the popular “trend-following” strategy. We use lookback
straddles to model trend-following strategies, and show that they can explain trend-following funds’ returns better than standard
asset indices. Though standard straddles lead to similar empirical results, lookback straddles are theoretically closer to
the concept of trend following. Our model should be useful in the design of performance benchmarks for trend-following funds.
This paper tests models of mutual fund market timing that (1) allow the manager's utility function to depend on returns in excess of a benchmark; (2) distinguish timing based on lagged, publicly available information variables from timing based on finer information; and (3) simultaneously estimate the parameters which describe the public information environment, the risk aversion and the precision of the fund's market timing signal. Using a sample of more than 400 U.S. mutual funds for 1976-94, the estimates imply that mutual funds behave as risk averse, benchmark investors. Conditioning on public information variables improves the model specification, and after controlling for the public information we find no evidence that funds have significant market timing ability.
Hedge funds display several interesting characteristics that may influence performance, including: flexible investment strategies, strong managerial incentives, substantial managerial investment, sophisticated investors, and limited government oversight. Using a large sample of hedge fund data from 1988-1995, we find that hedge funds consistently outperform mutual funds, but not standard market indices. Hedge funds, however, are more volatile than both mutual funds and market indices. Incentive fees explain some of the higher performance, but not the increased total risk. The impact of six data-conditioning biases is explored. We find evidence that positive and negative survival-related biases offset each other. Copyright The American Finance Association 1999.
This article presents some new results on an unexplored dataset on hedge fund performance. The results indicate that hedge funds follow strategies that are dramatically different from mutual funds, and support the claim that these strategies are highly dynamic. The article finds five dominant investment styles in hedge funds, whichwhenadded to Sharpe's (1992) asset class factor model can provide an integrated framework for style analysis of both buy-and-hold and dynamic trading strategies
- Edwards F.
- Liang B.
On the Performance of Hedge Funds
- B Liang
- Jensen M.