Hedge Fund Performance and Manager Skill

Abstract

Using data on the monthly returns of hedge funds during the period 1990:01 through 1998:08, we estimate six-factor Jensen alphas for individual hedge funds employing eight different investment styles. We find that about 25 percent of hedge funds earn positive excess returns, and that the frequency and magnitude of funds' excess returns differ markedly by investment style. Using six-factor alphas as a measure of performance, we also analyze performance persistence over one- and two-year horizons and find evidence of significant persistence among both winners and losers. These findings together with our finding that hedge funds that pay managers higher incentive fees also have higher excess returns are consistent with the view that fund manager skill may be a partial explanation for the positive excess returns earned by hedge funds.