Tracking Problems, Hedge Fund Replication, and Alternative Beta
AbstractAs hedge fund replication based on factor models has encountered growing interest among professionals and academics, and despite the launch of numerous products (indexes and mutual funds) in the past year, it has faced many critics. In this paper, we consider two of the main critiques, namely the lack of reactivity of hedge fund replication, its deficiency in capturing tactical allocations, and the lack of access to the alpha of hedge funds. To address these problems, we consider hedge fund replication as a general tracking problem which may be solved by means of Bayesian filters. Using the example provided by Roncalli and Teiletche (2008), we detail how the Kalman filter tracks changes in exposures, and show that it provides a replication methodology with a satisfying economic interpretation. Finally, we address the problem of accessing the pure alpha by proposing a core/satellite approach of alternative investments between high-liquid alternative beta and less liquid investments. Non-normality and non-linearities documented on hedge fund returns are investigated using the same framework in a companion paper [Roncalli and Weisang (2009)].
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Bibliographic InfoArticle provided by Capco Institute in its journal Journal of Financial Transformation.
Volume (Year): 31 (2011)
Issue (Month): ()
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Tracking problem; hedge fund replication; alternative beta; global tactical asset allocation; Bayes filter; Kalman filter; particle filter; alpha.;
Other versions of this item:
- Roncalli, Thierry & Weisang, Guillaume, 2008. "Tracking problems, hedge fund replication and alternative beta," MPRA Paper 37358, University Library of Munich, Germany.
- C60 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - General
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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