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Quantitative Selection of Long-Short Hedge Funds

Author

Listed:
  • Kaifeng CHEN

    () (HEC-University of Lausanne and FAME)

  • Alexander PASSOW

    () (GOTTEX and FAME)

Abstract

We develop a quantitative model to select hedge funds in the long-short equity sector. The selection strategy is verified on a survivorship-bias-free hedge fund database, from January 1990 to September 2002. We focus on the hedge funds acting exclusively in the U.S. market. We identify Fama-French factors and GSCI as the risk factors. Based on the evidence that many hedge funds do not exhibit persistent performance, we believe that persistent alpha is not generated based on publicly available information and opportunistic changes of exposure with respect to the risk factors. Instead we expect moderate exposure funds to be those who establish investment decisions based on special information or proprietary research. A hedge fund selection strategy is introduced and checked with out-of-sample data. A simulation of hedge funds from 1927 to 2002 is conducted. The funds selected according to our strategy demonstrate superior performance persistently.

Suggested Citation

  • Kaifeng CHEN & Alexander PASSOW, 2003. "Quantitative Selection of Long-Short Hedge Funds," FAME Research Paper Series rp94, International Center for Financial Asset Management and Engineering.
  • Handle: RePEc:fam:rpseri:rp94
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    File URL: http://www.swissfinanceinstitute.ch/rp94.pdf
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    References listed on IDEAS

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    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Hedge Fund; Long Short Strategy; Fama-French; Commodity; Performance Persistence; Skewness; Selection;

    JEL classification:

    • C40 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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