Hedge Funds: Pricing Controls and the Smoothing of Self-Reported Returns

59 Pages Posted: 2 Nov 2009

See all articles by Gavin Cassar

Gavin Cassar


Joseph Gerakos

Tuck School of Business at Dartmouth College

Multiple version iconThere are 2 versions of this paper

Date Written: November 2, 2009


We investigate the extent to which hedge fund managers smooth self‐reported returns. In contrast with prior research on the “anomalous” properties of hedge fund returns, we observe the mechanisms used to price the fund’s investment positions and report the fund’s performance to investors, thereby allowing us to differentiate between asset illiquidity and misreporting‐based explanations. We find that funds using less verifiable pricing sources and funds that provide managers with greater discretion in pricing investment positions are more likely to have returns consistent with intentional smoothing. Traditional controls, however, such as removing the manager from the setting and reporting of the fund’s net asset value and the use of reputable auditors and administrators are not associated with lower levels of smoothing. With respect to asset illiquidity vs. misreporting, investment style and portfolio characteristics explain 14.0-24.3 percent of the variation in our smoothing measures and pricing controls explain an additional 4.1-8.8 percent, suggesting that asset illiquidity is the major factor driving the anomalous properties of self‐reported hedge fund returns.

Keywords: Hedge Funds, Performance Smoothing, Serial Correlation, Pricing Controls

JEL Classification: G12, G23, M41, M42

Suggested Citation

Cassar, Gavin and Gerakos, Joseph, Hedge Funds: Pricing Controls and the Smoothing of Self-Reported Returns (November 2, 2009). Chicago Booth Research Paper No. 09-43, Available at SSRN: https://ssrn.com/abstract=1498601 or http://dx.doi.org/10.2139/ssrn.1498601

Gavin Cassar

INSEAD ( email )

Boulevard de Constance
Fontainebleau, 77305

HOME PAGE: http://https://www.insead.edu/faculty-research/faculty/gavin-cassar

Joseph Gerakos (Contact Author)

Tuck School of Business at Dartmouth College ( email )

Hanover, NH 03755
United States

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