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Hedge funds, managerial skill, and macroeconomic variables

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  • Avramov, Doron
  • Kosowski, Robert
  • Naik, Narayan Y.
  • Teo, Melvyn
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    Abstract

    This paper evaluates hedge fund performance through portfolio strategies that incorporate predictability based on macroeconomic variables. Incorporating predictability substantially improves out-of-sample performance for the entire universe of hedge funds as well as for various investment styles. While we also allow for predictability in fund risk loadings and benchmark returns, the major source of investment profitability is predictability in managerial skills. In particular, long-only strategies that incorporate predictability in managerial skills outperform their Fung and Hsieh (2004) benchmarks by over 17% per year. The economic value of predictability obtains for different rebalancing horizons and alternative benchmark models. It is also robust to adjustments for backfill bias, incubation bias, illiquidity, fund termination, and style composition.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 99 (2011)
    Issue (Month): 3 (March)
    Pages: 672-692

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    Handle: RePEc:eee:jfinec:v:99:y:2011:i:3:p:672-692

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    Web page: http://www.elsevier.com/locate/inca/505576

    Related research

    Keywords: Hedge funds Predictability Managerial skills Macroeconomic variables;

    References

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    1. Fung, William & Hsieh, David A, 2001. "The Risk in Hedge Fund Strategies: Theory and Evidence from Trend Followers," Review of Financial Studies, Society for Financial Studies, vol. 14(2), pages 313-41.
    2. Pastor, Lubos & Stambaugh, Robert F., 2002. "Mutual fund performance and seemingly unrelated assets," Journal of Financial Economics, Elsevier, vol. 63(3), pages 315-349, March.
    3. Keim, Donald B. & Stambaugh, Robert F., 1986. "Predicting returns in the stock and bond markets," Journal of Financial Economics, Elsevier, vol. 17(2), pages 357-390, December.
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    5. Jonathan B. Berk & Richard C. Green, 2002. "Mutual Fund Flows and Performance in Rational Markets," FAME Research Paper Series rp100, International Center for Financial Asset Management and Engineering.
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    7. Fung, William & Hsieh, David A & Naik, Narayan & Ramadorai, Tarun, 2006. "Hedge Funds: Performance, Risk and Capital Formation," CEPR Discussion Papers 5565, C.E.P.R. Discussion Papers.
    8. Pástor, Luboš & Stambaugh, Robert F, 2002. "Liquidity Risk and Expected Stock Returns," CEPR Discussion Papers 3494, C.E.P.R. Discussion Papers.
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    17. Aggarwal, Rajesh K. & Jorion, Philippe, 2010. "The performance of emerging hedge funds and managers," Journal of Financial Economics, Elsevier, vol. 96(2), pages 238-256, May.
    18. Fama, Eugene F. & French, Kenneth R., 1989. "Business conditions and expected returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 25(1), pages 23-49, November.
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    Cited by:
    1. Agarwal, Vikas & Fos, Vyacheslav & Jiang, Wei, 2012. "Inferring reporting biases in hedge fund databases from hedge fund equity holdings," CFR Working Papers 10-08 [rev.], University of Cologne, Centre for Financial Research (CFR).
    2. Nucera, Federico & Valente, Giorgio, 2013. "Carry trades and the performance of currency hedge funds," Journal of International Money and Finance, Elsevier, vol. 33(C), pages 407-425.
    3. Antonio Di Cesare & Philip A. Stork & Casper G. de Vries, 2011. "Risk Measures for Autocorrelated Hedge Fund Returns," Tinbergen Institute Discussion Papers 11-084/2/DSF 23, Tinbergen Institute.
    4. Horst, Jenke ter & Salganik, Galla, 2014. "Style chasing by hedge fund investors," Journal of Banking & Finance, Elsevier, vol. 39(C), pages 29-42.
    5. Antonio Di Cesare & Philip A. Stork & Casper G. de Vries, 2011. "Risk Measures for Autocorrelated Hedge Fund Returns," Tinbergen Institute Discussion Papers 11-084/2/DSF 23, Tinbergen Institute.
    6. Ramadorai, Tarun, 2013. "Capacity constraints, investor information, and hedge fund returns," Journal of Financial Economics, Elsevier, vol. 107(2), pages 401-416.
    7. ap Gwilym, Rhys & Ebrahim, M. Shahid, 2013. "Can position limits restrain ‘rogue’ trading?," Journal of Banking & Finance, Elsevier, vol. 37(3), pages 824-836.
    8. Olmo, José & Sanso-Navarro, Marcos, 2012. "Forecasting the performance of hedge fund styles," Journal of Banking & Finance, Elsevier, vol. 36(8), pages 2351-2365.
    9. Schaub, Nic & Schmid, Markus, 2013. "Hedge fund liquidity and performance: Evidence from the financial crisis," Journal of Banking & Finance, Elsevier, vol. 37(3), pages 671-692.
    10. Stephan Kessler & Bernd Scherer, 2013. "Momentum and macroeconomic state variables," Financial Markets and Portfolio Management, Springer, vol. 27(4), pages 335-363, December.

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