Hedge Fund Performance Persistence Research Articles

The Decline in Hedge Fund Performance Persistence

The Decline in Hedge Fund Performance Persistence

Hedge fund performance persistence under different business cycles and stock market regimes

We examine different aspects of performance persistence of US hedge funds over different business cycles and stock market regimes. During periods of economic growth and bull stock markets, we report performance persistence for up to one year in the risk-adjusted returns of fund portfolios of different investment strategies, which is mainly driven by top fund performers. Performance persistence weakens dramatically during recession periods and bear stock markets. Our results are robust to different combinations of states of economic growth and stock market regimes. Trading strategies constructed on the basis of our results confirm the economic significance of our findings.

Gender Differences in Hedge Fund Performance Persistence

Gender Differences in Hedge Fund Performance Persistence

Luck or Skill: What Drives Hedge Fund Performance Persistence?

Luck or Skill: What Drives Hedge Fund Performance Persistence?

Managerial Performance Persistence of Hedge Funds

This article examines performance persistence of 773 hedge funds from the period 1990 to 2003. The sample is free of survivorship bias, backfill, and selection bias. We find evidence of managerial positive performance persistence using multi-factor models. Performance is measured by Jensen’s alpha based on regression models such as the CAPM, Fama and French,(1993), three-factor model, Carhart, (1997), four- factor model and Guirguis,(2005), six-factor model. A positive value of Jensen’s alpha means that the fund manager has outperformed the market index. A negative value of Jensen’s alpha shows inferior performance. The significant t-statistic is a sign of stock picking ability based on skills and not on luck. Positive alphas measure the contribution of the manager to the performance of the fund. Thus, a positive and statistically significant alpha indicates superior managerial performance persistence of the fund. Negative values or statistically insignificant values represent inferior or neutral managerial performance persistence. Based on CAPM regression results, all style categories display alpha that is positive and not statistically significant at 5% level. Based on Fama and French,(1993), three factor model regression results, seven out of nine categories display a significant alpha. Based on Carhart’s ,(1997), four - factor model, eight out of nine style categories display an alpha that is positive and statistically significant at the 5% significance level. Based on my regression results or Guirguis, (2005), six - factor model all style categories display an alpha that is positive and statistically significant at the 5% significance level.

An Examination of Hedge Funds Performance Persistence

We check for performance persistence of hedge funds in terms of market price average returns in each style category. In addition, we use regression models to test market timing ability. We use a sample of 773 hedge funds both alive and dead to avoid survivorship, self-selection and backfill bias. We include in our sample funds that have stopped to exist or merged with other funds. Positive returns indicate that the manager is skillful in terms of share picking ability. In addition, I am going to test for market timing ability to measure if the fund manager can outperform the market index. The market timing ability is verified using the Treynor – Mazuy (1966) model and denoted by the coefficient gamma. If the coefficient is positive this indicates that the manager has superior timing ability. Based on my regression results, all out of the nine style sectors display a coefficient of market timing ability that is positive and not statistically significant at 5% level. No sectors showed superior timing market ability. Negative values represent inferior or neutral managerial performance. None out of the nine style categories display negative figures. All nine style sectors display positive figures for the share average returns. Positive returns indicate that the manager is skillful in terms of share picking ability.

A Research Analysis of Hedge Funds Performance Persistence

The existing literature of performance persistence of hedge funds is mixed due to different methodologies and findings. We use a comprehensive sample of 736 hedge funds to test performance persistence in different time periods. The total sample includes 773 hedge funds. We sort funds into rank portfolios based on past performance. A positive and statistically significant alpha indicates a skilled fund manager whose decisions add value to the fund. On the other hand, negative alpha values or statistically insignificant values represent inferior or neutral performance of the manager. The results show short-term performance persistence over one year period for winners. Nine style categories show a positive and statistically significant alpha at the 5% significance level and market timing ability for winners the first 12 months. We did not find any evidence of performance persistence over the long-term. All the remaining years such as the third, the fifth, and the twelfth show insignificant alpha and market timing ability for both winners and losers. The persistence of winners could be justified by the skill of the fund managers and market timing ability to predict the movement of the market.

Hedge Fund Performance Persistence: Do the Country of Domicile and the Investment Strategy Matter?

Despite the exponential increase in the literature related to the performance of Alternative Investment Funds (AIFs), risk management with respect to the measurement of performance persistence remains largely unexplored. In this paper, we investigate the impact of geolocation and investment strategy effects on the estimation of risk in performance persistence measurement dynamics. This aspect of risk in performance persistence is crucial as it allows us to show the combined effects of geolocation and investment strategy choice on risk-adjusted performance persistence. We report strong performance persistence when analysing the individual domicile or strategy. However, as we move to consider a combination of both domicile and the investment strategy, we can observe diminished persistence as well as its loss and reversal. The results of our cross-comparison show that the sole reliance on the individual domicile/investment strategy focused clusters can be grossly misleading and lead to capital losses.

The Effect of Investment Constraints on Hedge Fund Investor Returns

This paper examines the effect of real-world, investor-level investment constraints, including several that have not been studied before, on hedge fund performance and its persistence. Using a large consolidated database, we demonstrate that hedge fund performance persistence is significantly reduced when rebalancing rules reflect fund size restrictions and liquidity constraints but remains statistically significant at higher rebalancing frequencies. Hypothetical investor portfolios that incorporate additional minimum diversification constraints, minimum investment requirements, and focus on open funds suggest that the performance and its persistence documented in earlier studies of hedge funds is not easily exploitable, especially by large investors.

Only Winners in Tough Times Repeat: Hedge Fund Performance Persistence over Different Market Conditions

We provide novel evidence that hedge fund performance is persistent following weak hedge fund markets but is not persistent following strong markets. Specifically, we construct two performance measures, RET_DOWN and RET_UP, conditioned on the level of overall hedge fund sector returns. After adjusting for risks, funds in the highest RET_DOWN quintile outperform funds in the lowest quintile by approximately 7% in the subsequent year, whereas funds with better RET_UP do not outperform subsequently. The RET_DOWN measure can predict future fund performance over a horizon as long as 3 years, for both winners and losers and for funds with few share restrictions.

Assessing hedge fund performance with institutional constraints: evidence from CTA funds

Standard tests for persistence in hedge fund performance are not consistent with investment practices because they ignore performance reporting delay, overlook fund selection standards of institutional investors, and often use portfolios with too many funds. This paper introduces a set of tests based on a large-scale simulation framework and stochastic dominance methodology. These tests incorporate constraints that are standard practice in the institutional investment field. To illustrate this framework, we apply it to investigate momentum in the performance of hedge funds of the managed futures industry. We find persistence in performance of the top performing fund managers that is significant in statistical and economic terms. Our methodology extends the toolbox of performance persistence tests and results in findings that can be implemented by institutional investors.

Only Winners in Tough Times Repeat: Hedge Fund Performance Persistence over Different Market Conditions

We provide novel evidence that hedge fund performance is persistent following weak hedge fund markets, but is not persistent following strong markets. Specifically, we construct two performance measures, DownsideReturns and UpsideReturns, conditioned on the level of overall hedge fund sector returns. After adjusting for risks, funds in the highest DownsideReturns quintile outperform funds in the lowest quintile by about 7% in the subsequent year, whereas funds with better UpsideReturns do not outperform subsequently. The DownsideReturns can predict future fund performance over a horizon as long as 3 years, for both winners and losers, and for funds with few share restrictions.

Detecting performance persistence of hedge funds

In this paper, we use nonparametric runs-based tests to analyze the randomness and the persistence of relative returns of hedge funds. Runs tests are implemented on a universe of hedge funds extracted from HFR database over the period spanning January 2000 to December 2012. Our findings suggest that i) slightly less than 80% of the studied universe has returns at random, ii) a similar figure is found out when focusing on relative returns, iii) hedge funds that do present clustering in their relative returns are mainly found within Event Driven and Relative Value strategies, iv) and for relative returns, results vary with the type of the benchmark nature (peer group average or traditional). This paper also emphasizes that runs tests may be a useful tool for investors in their fund's selection process.

Impact of Advance Notice Periods on the Performance Persistence of Hedge Funds

This paper examines the impact of the advance notice period on hedge fund performance persistence in investors’ portfolios. As investors in hedge funds face several trading restrictions related to the funds’ common investment terms and conditions, it is hypothesized that the advance notice period generates illiquidity for investors and impairs their ability to benefit from performance persistence in hedge funds. Using a sample of 4,788 hedge funds over a period from 1994 to 2008 and contingency table based standard methodology for returns and Sharpe ratios, the results suggest that accounting for individual funds’ advance notice periods has a negative impact on the performance persistence of hedge funds. The proportion of significantly persistent funds declines when incorporating the advance notice period, especially for short time horizons. Furthermore, a considerable part of hedge fund performance persistence is related to asset class-specific terms and conditions, reducing the amount of short-term performance persistence in practice.

Flows, Price Pressure, and Hedge Fund Returns

The authors studied how capital flows affect hedge fund returns and found that funds with high inflows outperform funds with high outflows during the month of the flows. This immediate reaction, combined with feedback trading, gives rise to a cycle: Flows exert price pressure, this effect on returns induces more flows, and these flows cause further price pressure. The cycle is so strong that it takes two years for a full return reversal, and it contributes to the observed persistence in hedge fund performance. The impact of flows on returns has clear implications for performance evaluation: One-third of estimated hedge fund alphas are due to flows.

Quantitative Edge in Portfolio Management of CTA Investments

Standard tests for persistence in hedge fund performance are not consistent with investment practices because they ignore performance reporting delay, overlook fund selection standards of institutional investors, and often use portfolios with too many funds. This paper introduces a set of tests based on a large scale simulation framework and stochastic dominance methodology. These tests incorporate constraints that are standard practice in the institutional investment field. To illustrate this framework, we apply it to investigate momentum in performance of hedge funds in the managed futures industry. We find persistence in performance of the top performing fund managers that is significant in statistical and economic terms. Our methodology extends the toolbox of performance persistence tests and results in findings that can be implemented by institutional investors.

Hedge Fund Characteristics and Performance Persistence

In this paper, we investigate the performance persistence of hedge funds over time horizons between 6 and 36 months based on a merged sample from the Lipper/TASS and CISDM databases for the time period from 1994 to 2008. Unlike previous literature, we use a panel probit regression approach to identify fund characteristics that are significantly related to performance persistence. We then investigate the performance of two-way sorted portfolios where sorting is based on past performance and one of the additional fund characteristics identified as persistence-enhancing in the probit analysis. We find statistically and economically significant performance persistence for time horizons of up to 36 months. Although we identify several fund characteristics that are strongly correlated with the probability of observing performance persistence, we find only one fund characteristic, a strategy distinctiveness index that attempts to measure manager skills and the uniqueness of the hedge fund's trading strategies, to have the ability to systematically improve performance persistence up to a time horizon of 24 months. The economic magnitude of this improvement amounts to a sizeable increase in alpha by approximately 4.0% and 2.3% p.a. for annual and biennial rebalancing, respectively.

The Effect of Investment Constraints on Hedge Fund Investor Returns

This paper examines the effect of investor-level real-world investment constraints, including several which had not been studied before, on hedge fund performance and its persistence. Using a large consolidated database, we demonstrate that hedge fund performance persistence is significantly reduced when rebalancing rules reflect fund size restrictions and liquidity constraints, but remains statistically significant at higher rebalancing frequencies. Hypothetical investor portfolios that incorporate additional minimum diversification constraints and minimum investment requirements suggest that the performance and its persistence documented in earlier studies of hedge funds is not easily exploitable, especially by large investors.

Market Conditions and Fund Flows: Evidence from Hedge Funds

This paper investigates whether market conditions affect fund investor behaviour in the hedge fund industry, especially the volatility in the up and down markets. Using a sample of 5,254 individual hedge funds from January 1994 to December 2009, we find that hedge fund investors tend to invest less during up and down-volatile markets. They also adopt different investment strategies in these two market conditions. When market is calm and relatively predictable, there is almost no difference in their behaviors between up and down markets. We also find that smart money effect exists over both 3- and 12-month periods under all market conditions except volatile markets. A further investigation suggests that the observed smart money effect is largely driven by hedge fund performance persistence, which is present and significant is quiet markets only. The findings are relevant to portfolio theories concerning investor recognition of upside and downside volatilities.

Flows, Price Pressure, and Hedge Fund Returns

We study how capital flows affect hedge fund returns. The contemporaneous relation is positive: funds with high flows outperform funds with low flows during the month of the flows. This immediate reaction, combined with feedback trading, gives rise to a cycle: flows exert price pressure, this effect on returns induces more flows, and these flows cause further price pressure. The cycle is so strong that it takes almost two years before a full return reversal is witnessed. This flow-return cycle also contributes to the observed persistence in hedge fund performance. The impact of flows on returns also has implications for performance evaluation: roughly one third of the estimated hedge fund alphas are due to flows.