Hedge Funds: Performance, Risk and Capital Formation

David A Hsieh, William Fung and Narayan Naik
Authors registered in the RePEc Author Service: Tarun Ramadorai

No 5565, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We 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.

Keywords: Hedge funds; Performance; Alpha; Factor models; Flow; Funds-of-hedge funds (search for similar items in EconPapers)
JEL-codes: G11 G12 G23 (search for similar items in EconPapers)
Date: 2006-03
New Economics Papers: this item is included in nep-fin, nep-fmk and nep-rmg
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Citations: View citations in EconPapers (8)

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Journal Article: Hedge Funds: Performance, Risk, and Capital Formation (2008)
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