The necessity to correct hedge fund returns: empirical evidence and correction method

Georges Gallais-Hamonno and Thi Thanh Huyen Nguyen

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Abstract: We study two principal mechanisms suggested in the literature to correct the serial correlationin hedge fund returns and the impact of this correction on financial characteristics of their returnsas well as on their risk level and on their performances. The methods of Geltner (1993), its extensionby Okunev & White (2003) and of Getmansky, Lo & Makarov (2004) are realized on a sampleof 54 hedge fund indexes. The results show that the unsmoothing leaves the mean unchangedbut increases significantly the risk level of hedge funds, whether the risk is measured in terms ofthe return standard-deviation or the modified Value-At-Risk. Funds' performances, measured bytraditional Sharpe ratio and Omega index decline considerably. By contrast, funds' rankings afterthe unsmoothing unexpectedly change slightly. However, some notable modifications in ranks ofseveral funds are observed. The necessary transparency of the management practice requires thatsuch a correction must be systematically done.

Keywords: Sharpe ratio; Omega index; hedge funds; smoothed returns; performance evaluation; rentabilités lissées et délissées; mesure de performance; ratio de Sharpe; indice Omega (search for similar items in EconPapers)
Date: 2007-10
Note: View the original document on HAL open archive server: https://shs.hal.science/halshs-00184470v1
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Working Paper: The Necessity to Correct Hedge Fund Returns: Empirical Evidence and Correction Method (2007)
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