HIGHER RISK, LOWER RETURNS: WHAT HEDGE FUND

INVESTORS
REALLY EARN
JOURNAL
OF
FINANCIAL
ECONOMICS? 2011
ABSTRACT The returns of hedge fund investors depend not only on the returns of the
funds they hold but also on the timing and magnitude of their capital flows in and out of these
funds. We use dollar-weighted returns (a form of Internal Rate of Return (IRR)) to assess the
properties of actual investor returns on hedge funds and compare them to buy-and hold fund
returns. Our main finding is that annualized dollar-weighted returns are on the magnitude of
3% to 7% lower than corresponding buy-and-hold fund returns. Using factor models of risk
and the estimated dollar-weighted performance gap, we find that the real alpha of hedge fund
investors is close to zero. In absolute terms, dollar weighted returns are reliably lower than
the return on the Standard & Poors (S&P) 500 index, and are only marginally higher than the
risk-free rate as of the end of 2008. The combined impression from these results is that the
return experience of hedge fund investors is much worse than previously thought.

THE LIFE CYCLE OF HEDGE FUNDS: FUND FLOWS, SIZE,

COMPETITION, AND PERFORMANCE QUARTERLY JOURNAL OF
FINANCE 2012
ABSTRACT This paper analyses the life cycles of hedge funds. Using the Lipper TASS
database it provides category and fund specific factors that affect the survival probability of
hedge funds. The findings show that in general, investors chasing individual fund
performance, thus increasing fund flows, decrease probabilities of hedge funds liquidating.
However, if investors chase a category of hedge funds that has performed well (favourably
positioned), then the probability of hedge funds liquidating in this category increases. We
interpret this finding as a result of competition among hedge funds in a category. As
competition increases, marginal funds are more likely to be liquidated than funds that deliver
superior risk-adjusted returns. We also find that there is a concave relationship between
performance and lagged assets under management. The implication of this study is that an
optimal asset size can be obtained by balancing out the effects of past returns, fund flows;
competition, market impact, and favourable category positioning that are modelled in the
paper. Hedge funds in capacity constrained and illiquid categories are subject to high market
impact, have limited investment opportunities, and are likely to exhibit optimal size
behaviour.

MACROECONOMIC RISK AND HEDGE FUND RETURNS JOURNAL

OF FINANCIAL ECONOMICS 2014
ABSTRACT This paper estimates hedge fund and mutual fund exposure to newly
proposed measures of macroeconomic risk that are interpreted as measures of economic
uncertainty. We find that the resulting uncertainty betas explain a significant proportion of the
cross-sectional dispersion in hedge fund returns. However, the same is not true for mutual
funds, for which there is no significant relationship. After controlling for a large set of fund
characteristics and risk factors, the positive relation between uncertainty betas and future
hedge fund returns remains economically and statistically significant. Hence, we argue that
macroeconomic risk is a powerful determinant of cross-sectional differences in hedge fund
returns.

CHANGE YOU CAN BELIEVE IN? HEDGE FUND DATA REVISIONS.

JOURNAL OF FINANCIAL ECONOMICS 2015
ABSTRACT We analyse the reliability of voluntary disclosures of financial information,
focusing on widely-employed publicly-available hedge fund databases. Tracking changes to
statements of historical performance recorded between 2007 and 2011, we find that historical
returns are routinely revised. These revisions are not merely random or corrections of earlier
mistakes; they are partly forecast able by fund characteristics. Funds that revise their
performance histories significantly and predictably underperform those that have never
revised, suggesting that unreliable disclosures constitute a valuable source of information for
investors. These results speak to current debates about mandatory disclosures by financial
institutions to market regulators.

STYLE CHASING BY HEDGE FUND INVESTORS JOURNAL OF

BANKING & FINANCE 2014
Abstract This paper examines whether investors chase hedge fund investment styles. We
find that better-performing and more popular styles are rewarded with higher inflows in
subsequent periods. This indicates that investors compare hedge fund styles in terms of recent
performance and popularity, and they subsequently reallocate funds from less successful to
more successful styles. Furthermore, we find evidence of competition between individual
hedge funds of the same style. Funds outperforming the other funds in their styles and funds
whose inflows exceed the average flows in their styles experience higher inflows in
subsequent periods. One of the reasons for competition among same-style funds is investors
search for the best managers. The high minimum investment required to invest in a hedge
fund limits investors diversification opportunities and makes this search particularly
important. Finally, we show that hedge fund investors implementation of style chasing in
combination with intra-style fund selection represents a smart strategy.

HEDGE FUND PERFORMANCE: WHAT DO WE KNOW? CEPR

(CENTRE FOR ECONOMIC POLICY RESEARCH) 2014
Abstract: This paper shows that several previously documented stylized facts about hedge
fund performance are sensitive to database selection and associated biases. Based on a novel
database aggregation, we show that qualitative and quantitative differences in conclusions
about average performance stem from database differences in the coverage of dead funds,
backfill bias as well as the completeness of assets under management information. Once
database selection biases are carefully accounted for, we find, in contrast to earlier studies,
that fund share restrictions (or proxies for illiquidity), are not associated with higher fund
performance while hedge funds with greater managerial incentives typically outperform.
Investors that consider chasing returns, should heed our finding that there is no performance
persistence for certain rebalancing frequencies and databases when equal-weighting funds.
Drawing on our results and a detailed appendix that describes our database aggregation, we
make three recommendations to hedge fund database users and researchers about hedge fund
database selection, construction and comparison.

WHEN THERE IS NO PLACE TO HIDE: CORRELATION RISK AND

THE CROSS-SECTION OF HEDGE FUND RETURNS. OXFORD
JOURNALS SOCIAL SCIENCES REVIEW OF FINANCIAL STUDIES.
2013
Abstract Using a novel data set on correlation swaps, we study the relation between
correlation risk, hedge fund characteristics, and their risk-return profile. We find that the
ability of hedge funds to create market-neutral returns is often associated with a significant
exposure to correlation risk, which helps to explain the large abnormal returns found in
previous models. We also estimate a significant negative market price of correlation risk,
which accounts for the cross-section of hedge fund excess returns. Finally, we detect a
pronounced nonlinear relation between correlation risk exposure and the tail risk of hedge
fund returns.

THE RETURNS TO HEDGE FUND ACTIVISM: AN INTERNATIONAL

STUDY. EUROPEAN CORPORATE GOVERNANCE INSTITUTE (ECGI)
- FINANCE WORKING PAPER NO. 402/2014
Abstract: This paper provides evidence that returns to hedge fund activism are driven by
engagement outcomes. We use a sample of 1,740 activist engagements from 23 countries to
estimate performance of activism across North America, Europe and Asia. Striking
differences emerge across countries in outcomes of the engagements. It is these differences
that explain the variation in performance of activism. Although there is evidence that activists
put companies into play, frequently those takeovers are preceded by significant and profitable
governance changes. While the U.S. model of activism has been copied by foreign activists,
non-U.S. activists outperform U.S. activists in their domestic markets.

JOURNAL OF FINANCIAL AND QUANTITATIVE ANALYSIS. HEDGE

FUND RETURN PREDICTABILITY UNDER THE MAGNIFYING
GLASS 2013
Abstract This paper develops a unified approach to comprehensively analyse individual
hedge fund return predictability, both in and out of sample. In sample, we find that variation
in hedge fund performance across changing market conditions is widespread and
economically significant. The predictability pattern is consistent with economic rationale, and
largely reflects differences in key hedge fund characteristics, such as leverage or capacity
constraints. Out of sample, we show that a simple strategy that combines the funds return
forecasts obtained from individual predictors delivers superior performance. We exploit this
simplicity to highlight the drivers of this performance, and find that in- and out-of-sample
predictability is closely related.

GENERALIZED RUNS TESTS TO DETECT RANDOMNESS IN

HEDGE FUNDS RETURNS JOURNAL OF BANKING & FINANCE
2015
ABSTRACT the major contribution of this paper is to make use of generalized runs
tests (Cho and White, 2011) to analyse the randomness, i.e. the lack of persistence, in
both absolute and relative returns of hedge funds. We find that about 42% of the HFR
universe exhibit iid absolute returns over the period spanning 2000 to 2012. These
funds are mainly found in proportions within the Macro and Equity Hedge strategies.
A similar result holds for relative returns. We also find that funds having non-iid
returns often exhibit ARCH effects and structural breaks, with largest breaks located
within financial crises. Also, only a small percentage displays persistence in their
relative performance, 8.2% to 16.7% of the universe, mainly found in proportions
within the Relative Value and Event-Driven strategies. The robustness of results is
challenged by implementing the tests on a crisis-free period. We find similar results
for absolute returns. For relative ones, differences appear across strategies and
benchmarks, but still both ARCH and breaks are present. Our work contributes to the
hedge fund literature in terms of methodology, portfolio allocation, and performance
measurement.