Making Sense of Hedge Fund Returns: What Matters and What Doesn’t

Overview: While the past year has seen much discussion of performance a few notable hedge fund failures, there has been relatively little effort to consider systematically the sources of returns to hedge funds in general. Consideration needs to be devoted to the economic determinants of hedge fund returns both during periods of relative market tranquility as well as during periods of profound market turbulence, such as that which occurred in August 1998. To that end, the article presents evidence that shows that hedge fund returns can, at the index level, be explained by economics. But it also shows that that evidence is in itself only somewhat helpful in understanding the returns of individual funds. Furthermore, it shows that these difficulties in systematically determining and representing the sources of individual fund returns cannot be readily compensated for through superior selection of hedge fund managers. All the evidence together can be taken as justification for the creation of index-based products designed to efficiently deliver the returns to particular hedge fund styles. It also provides a rationale for the development of models for the dynamic allocation of capital across hedge fund styles.

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Format: PDF | Size: 30KB | Date: Jan 2003 | Pages: 8