Dynamic Investment Opportunities and the Cross-Section of Hedge Fund Returns : Implications of Higher-Moment Risks for Performance
In this paper, we examine higher-moment market risks in the cross-section of hedge fund returns to make several contributions. First, we show that hedge funds are substantially exposed to the three highermoment risks - volatility, skewness, and kurtosis. In contrast, mutual funds do not display mean...
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| Main Authors: | , , |
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| Format: | text |
| Language: | English |
| Published: |
Institutional Knowledge at Singapore Management University
2008
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| Subjects: | |
| Online Access: | https://ink.library.smu.edu.sg/bnp_research/5 https://ink.library.smu.edu.sg/cgi/viewcontent.cgi?article=1006&context=bnp_research |
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| Institution: | Singapore Management University |
| Language: | English |
| Summary: | In this paper, we examine higher-moment market risks in the cross-section of hedge fund returns to make several contributions. First, we show that hedge funds are substantially exposed to the three highermoment risks - volatility, skewness, and kurtosis. In contrast, mutual funds do not display meaningful dispersions in their exposures to these risks. Further, funds of hedge funds when examined as a separate investment category do not show aggressive loading on higher-moment risks. Second, we provide evidence on economically significant premiums being embedded in hedge fund returns on account of their exposures to higher-moment risks. Third, we uncover a set of higher-moment factors that are not strongly associated with factors in benchmark models that are currently used for evaluating hedge fund performance. Finally, the addition of these higher-moment factors to benchmark models can better explain the variation in hedge fund returns. Bearing on issues of practical consequence, we find that benchmark models augmented with higher-moment factors can considerably alter the hedge funds’ alpha-based rankings. |
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