On the Dynamics of Hedge Fund Strategies
Illinois Institute of Technology - Stuart School of Business
University of Massachusetts at Amherst - Department of Finance & Operations Management; China Academy of Financial Research (CAFR)
September 26, 2010
Hedge fund managers are largely free to pursue dynamic trading strategies and standard static performance appraisal is no longer accurate for evaluating hedge funds. Accordingly, this paper presents some new ways of analyzing hedge fund strategies following a dynamic linear regression model. Statistical residual diagnostics are considered to assess the appropriate use of the model. We unveil dynamic alphas and betas for each investment style during the period of January 1994 to December 2008. We examine the in-sample goodness-of-fit and out-of-sample predictability on hedge fund performance. By simulating a hypothetical trading strategy, we demonstrate that the model-based predictability helps to implement a profitable fund selection process. Finally, timing skills can be directly examined with a dynamic model; we find significant evidence on market timing, volatility timing and liquidity timing, which is consistent with the timing literature in hedge funds.
Number of Pages in PDF File: 38working papers series
Date posted: March 27, 2012
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