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Manchester Grand Hyatt, Seaport H
American Finance Association
Friday, Jan. 3, 2020 2:30 PM - 4:30 PM (PDT)
- Chair: Chris Schwarz, University of California-Irvine
Unobserved Performance of Hedge Funds
AbstractWe investigate hedge funds’ unobserved performance (UP), measured as the risk-adjusted return difference between a fund firm’s reported return and the hypothetical portfolio return derived from its disclosed long equity holdings. We find that UP is positively associated with a fund firm’s intraquarter trading in equity positions, derivatives usage, short selling, and confidential holdings. Funds with high UP outperform funds with low UP by more than 6% p.a. after accounting for typical hedge fund risk factors and fund characteristics. UP exhibits significant persistence but investors do not yet take it into account for manager selection.
The Life of the Counterparty: Shock Propagation in Hedge Fund-Prime Broker Credit Networks
AbstractThe collapse of Lehman Brothers illustrated the importance of managing prime broker counterparty risks for hedge funds. Liquidity shocks to prime brokers can lead to cycles of deleveraging that produce losses at funds and potentially have harmful effects on financial market function and credit provision. While the hedge fund-prime broker credit network is highly concentrated, the average hedge fund in our sample borrows from three prime brokers and has a total credit exposure of $2.15 billion. We show that hedge fund borrowing tends to be overcollateralized and most of the collateral is allowed to be rehypothecated. Using a within fund-quarter empirical strategy, we identify the effects of an idiosyncratic liquidity shock to a major creditor. Such a shock results in significantly reduced borrowing due to the prime broker reducing credit supply instead of a precautionary reduction in credit demand from connected hedge funds. Borrowing by funds with more rehypothecable collateral is less affected because such collateral improves the constrained creditor's liquidity situation. Even large hedge funds simultaneously borrowing from multiple creditors see a significant reduction in their aggregate borrowing following the shock. Larger, more connected and better-performing hedge funds and those that do less OTC trading are better able to compensate for this loss.
Investor Protection and Capital Fragility: Evidence from Hedge Funds Around the World
AbstractWe find that capital flows to hedge funds in different countries are influenced by the strength and the enforcement of investor protection laws in these countries. Hedge funds that are located in weak investor protection countries exhibit a 22% greater sensitivity of investor outflow to poor performance, relative to funds in countries with strong protection. Furthermore, weak investor protection is associated with fund managers engaging in greater returns management. Our findings suggest that in countries with weak investor protection, poor fund performance exposes investors to a greater risk of fraud and legal jeopardy, thus triggering a larger outflow of capital.
Arizona State University
University of Kentucky
- G1 - General Financial Markets