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What Is the Nature of Hedge Fund Manager Skills? Evidence from the Risk Arbitrage Strategy

56 Pages Posted: 20 Apr 2012 Last revised: 1 Aug 2014

Charles Cao

Pennsylvania State University

Bradley A. Goldie

Miami University

Bing Liang

University of Massachusetts Amherst - Department of Finance

Lubomir Petrasek

Federal Reserve Board

Date Written: July 22, 2014

Abstract

To understand the nature of hedge fund managers’ skills, we study the implementation of risk arbitrage by hedge funds using their portfolio holdings and comparing them with those of other institutional arbitrageurs. We find that hedge funds significantly outperform a naive risk arbitrage portfolio by 3.7% annually on a risk-adjusted basis, while non-hedge fund arbitrageurs fail to outperform the benchmark. Our analysis reveals that hedge funds’ superior performance does not reflect fund managers’ ability to predict or affect the outcome of merger and acquisition deals; rather, hedge fund managers’ superior performance is attributed to their ability to manage downside risk.

Keywords: Hedge funds, hedge fund holdings, performance evaluation, risk arbitrage strategy

JEL Classification: G11, G23

Suggested Citation

Cao, Charles and Goldie, Bradley A. and Liang, Bing and Petrasek, Lubomir, What Is the Nature of Hedge Fund Manager Skills? Evidence from the Risk Arbitrage Strategy (July 22, 2014). Journal of Financial and Quantitative Analysis (JFQA), Forthcoming. Available at SSRN: https://ssrn.com/abstract=2042744 or http://dx.doi.org/10.2139/ssrn.2042744

Charles Cao

Pennsylvania State University ( email )

Department of Finance
Smeal College of Business
University Park, PA 16802
United States
814-865-7891 (Phone)
814-865-3362 (Fax)

HOME PAGE: http://www.personal.psu.edu/qxc2/cao.html

Bradley A. Goldie (Contact Author)

Miami University ( email )

2029 Farmer School of Business
800 E. High Street
Oxford, OH 45056
United States
(513) 529-3657 (Phone)
(513) 529-6992 (Fax)

Bing Liang

University of Massachusetts Amherst - Department of Finance ( email )

Amherst, MA 01003
United States

Lubomir Petrasek

Federal Reserve Board ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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