Amir E. Khandani and Andrew W. Lo Volume 5, Number 4, Fourth Quarter 2007 During the week of August 6, 2007, a number of quantitative long/short equity hedge funds experienced unprecedented losses. Based on TASS hedge-fund data and simulations of a specific long/short equity strategy, we hypothesize that the losses were initiated by the rapid… Read more
Articles
Contingent Claims Approach to Measuring and Managing Sovereign Credit Risk
Dale F. Gray, Robert C. Merton and Zvi Bodie Volume 5, Number 4, Fourth Quarter 2007 This paper proposes a new approach to measure, analyze, and manage sovereign risk based on the theory and practice of modern contingent claims analysis (CCA). The paper provides a new framework for adapting the CCA model to the sovereign… Read more
Hedge Fund Mergers
Nusret Cakici and Sris Chatterjee Volume 5, Number 2, Second Quarter 2007 This paper examines the characteristics of merged hedge-funds. The data indicate that merged hedge-funds are larger funds that have underperformed over a two-year period prior to merger and have suffered from significantly lower money-flow prior to merger. Merged hedge-funds are also older funds… Read more
Timing Ability in the Focus Market of Hedge Funds
Yong Chen Volume 5, Number 2, Second Quarter 2007 This paper examines the timing ability of hedge funds covering various investment categories. We extend the Treynor-Mazuy (1966) and Henriksson-Merton (1981) market timing models to a multiple market framework and propose the concept of a focus market in which a fund trades most actively. Concentrating on… Read more
Will Hedge Funds Regress towards Index-like Products?
William Fung and David A. Hsieh Volume 5, Number 2, Second Quarter 2007 Hedge funds have grown substantially in the past few years even as hedge fund performance has declined with the rapid increase of capital. History tells us that over-priced, active managers will be replaced by low-cost, passive, index-like alternatives. Could the same process… Read more
How Hedge Funds Beat the Market
Craig French and Damian Ko Volume 5, Number 2, Second Quarter 2007 This paper investigates the determinants of hedge fund portfolio performance — whether hedge funds exhibit security selection skill and market-timing skill. We examine a sample of 157 long-short equity hedge funds over the 10-year period from January, 1996 through December, 2005. To account… Read more
Can Hedge-Fund Returns Be Replicated?: The Linear Case
Jasmina Hasanhodzic and Andrew W. Lo Volume 5, Number 2, Second Quarter 2007 In contrast to traditional investments such as stocks and bonds, hedge-fund returns have more complex risk exposures that yield additional and complementary sources of risk premia. This raises the possibility of creating passive replicating portfolios or \clones” using liquid exchange-traded instruments that… Read more
Performance-Based Fees and Risk Shifting with the Knockout Barrier
Xiaodong Xu and Bernd Scherer Volume 5, Number 3, Third Quarter 2007 Many investment firms reward portfolio managers based on their performance. This article investigates a manager’s optimal active risk policy using stochastic programming techniques. Our multiple-period model incorporates the most common incentive-fee structures, and captures the risk that the manager is fired for underperformance… Read more
Active 130/30 Extensions: Alpha Hunting at the Fund Level
Martin L. Leibowitz and Anthony Bova Volume 5, Number 3, Third Quarter 2007 Active equity strategies that are highly benchmark-centric will generally have a minimal impact on fund-level volatility. Since most US institutional portfolios are overwhelmingly dominated by their equity exposure, any incremental tracking error will be submerged by the beta effect. Positive alpha opportunities… Read more
On the Relative Performance of Multi-Strategy and Funds of Hedge Funds
Vikas Agarwal and Jayant R. Kale Volume 5, Number 3, Third Quarter 2007 Recently, there has been explosive growth in two products from the hedge fund industry multi-strategy (MS) funds and funds of hedge funds (FOFs), both of which offer diversification across different hedge fund strategies. In well functioning markets, both investment vehicles should offer… Read more