When Hedge Funds Block the Exits

19 Pages Posted: 25 Aug 2011

See all articles by Andrew Ang

Andrew Ang

BlackRock, Inc

Nicolas P. B. Bollen

Vanderbilt University - Finance

Date Written: January 14, 2010

Abstract

The ability of hedge fund investors to exit a fund by exchanging ownership for cash at the prevailing NAV is often blocked by lockups and notice periods. We model the exit decision as a real option and incorporate lockups and notice periods as exercise restrictions. We compute the cost of these restrictions using a lattice that incorporates the possibility of fund failure. Using data through 2008, we estimate that a two-year lockup with a three-month notice period costs approximately 4% of the initial investment. The cost of illiquidity can easily exceed 5% per year if the hedge fund manager suspends withdrawals as was common in the months following the financial crisis.

Suggested Citation

Ang, Andrew and Bollen, Nicolas P.B., When Hedge Funds Block the Exits (January 14, 2010). Available at SSRN: https://ssrn.com/abstract=1916286 or http://dx.doi.org/10.2139/ssrn.1916286

Andrew Ang (Contact Author)

BlackRock, Inc ( email )

55 East 52nd Street
New York City, NY 10055
United States

Nicolas P.B. Bollen

Vanderbilt University - Finance ( email )

401 21st Avenue South
Nashville, TN 37203
United States

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