54 Pages Posted: 21 Mar 2008 Last revised: 30 Jan 2011
Date Written: August 6, 2009
Hedge funds are fundamentally exposed to equity volatility, skewness, and kurtosis risks based on the systematic pattern and significant spread in alphas from the existing models that do not control for the higher-moment risks. The spread and pattern in alphas do not disappear with bootstrap simulation, Bayesian analysis to account for potential estimation error, adjustment for backfilling bias, and the inclusion of additional systematic factors. Significant cross-sectional variation in higher-moment exposures is observed across fund styles with equity-oriented styles displaying more extreme exposures. Investable higher-moment factors explain the time series behavior of returns of a large number of Managed Futures, Event Driven, and Long/Short Equity hedge funds. Average exposure sensitivities for higher-moment factors are statistically significant in an estimation that accounts for style fixed effects and fund random effects.
Keywords: volatility risk, skewness risk, kurtosis risk, higher moments, exposures, hedge funds, alphas
JEL Classification: G10, G11, G12
Suggested Citation: Suggested Citation
Agarwal, Vikas and Bakshi, Gurdip and Huij, Joop, Do Higher-Moment Equity Risks Explain Hedge Fund Returns? (August 6, 2009). Robert H. Smith School Research Paper No. RHS 06-153. Available at SSRN: https://ssrn.com/abstract=1108635 or http://dx.doi.org/10.2139/ssrn.1108635
By Bing Liang