Abstract

http://ssrn.com/abstract=1456414
 
 

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Trust and Delegation


Stephen J. Brown


New York University - Stern School of Business

William N. Goetzmann


Yale School of Management - International Center for Finance; National Bureau of Economic Research (NBER)

Bing Liang


University of Massachusetts at Amherst - Department of Finance & Operations Management; China Academy of Financial Research (CAFR)

Christopher Schwarz


University of California at Irvine

April 16, 2011


Abstract:     
This paper studies operational risk in the hedge fund industry using a sample of 444 due diligence (DD) reports. Many funds suffer from operational problems, ranging from limited disclosure on past legal or regulatory offenses and the failure to use a major auditing firm to the frequent use of internal pricing. We use direct evidence of inadequate or failed internal processes to derive a simple canonical correlation-based measure for operational risk. This measure is consistent with the Basel definition of operational risk and has relevance beyond hedge fund applications. It controls for selection bias and other conditioning factors using an extension of Heckman’s (1979) procedure. Operational risk does not influence investors’ return-chasing behavior, despite the fact that exposure to operational risk increases the likelihood of subsequent poor performance and fund disappearance. Our study emphasizes the importance of information verification in the context of financial intermediation.

Number of Pages in PDF File: 43

Keywords: Hedge Funds, Operational Risk, Due Diligence

JEL Classification: G2, K2

working papers series


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Date posted: August 17, 2009 ; Last revised: May 20, 2011

Suggested Citation

Brown, Stephen J. and Goetzmann, William N. and Liang, Bing and Schwarz, Christopher, Trust and Delegation (April 16, 2011). Available at SSRN: http://ssrn.com/abstract=1456414 or http://dx.doi.org/10.2139/ssrn.1456414

Contact Information

Stephen J. Brown (Contact Author)
New York University - Stern School of Business ( email )
Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0306 (Phone)
212-995-4233 (Fax)
William N. Goetzmann
Yale School of Management - International Center for Finance ( email )
135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States
203-432-5950 (Phone)
203-432-8931 (Fax)
HOME PAGE: http://viking.som.yale.edu

National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Bing Liang
University of Massachusetts at Amherst - Department of Finance & Operations Management ( email )
Amherst, MA 01003
United States
China Academy of Financial Research (CAFR)
1954 Huashan Road
Shanghai P.R.China, 200030
China

Christopher Schwarz
University of California at Irvine ( email )
Irvine, CA 92697-3125
United States
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