Hedge Funds: Performance, Risk and Capital Formation
AbstractWe use a comprehensive dataset of Funds-of-Hedge-Funds (FoFs) to investigate performance, risk and capital formation in the hedge fund industry over the past ten years. We confirm the finding of high systematic risk exposures in FoF returns. We divide up the past ten years into three distinct subperiods and demonstrate that the average FoF has only delivered alpha in the short second period from October 1998 to March 2000. In the cross section of FoFs, however, we are able to identify FoFs capable of delivering persistent alpha. We find that these more successful hedge funds experience far greater (and steadier) capital inflows than their less fortunate counterparts. Berk and Green's (2004) rational model of active portfolio management implies that diminishing returns to scale combined with the inflow of new capital leads to the erosion of superior performance over time. In keeping with this implication, we provide evidence that even successful hedge funds have experienced a recent, dramatic decline in risk-adjusted performance.
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Bibliographic InfoPaper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 5565.
Date of creation: Mar 2006
Date of revision:
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Other versions of this item:
- William Fung & David A. Hsieh & Narayan Y. Naik & Tarun Ramadorai, 2008. "Hedge Funds: Performance, Risk, and Capital Formation," Journal of Finance, American Finance Association, vol. 63(4), pages 1777-1803, 08.
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
- G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-04-08 (All new papers)
- NEP-FIN-2006-04-08 (Finance)
- NEP-FMK-2006-04-08 (Financial Markets)
- NEP-RMG-2006-04-08 (Risk Management)
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