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High Funding Risk, Low Return

66 Pages Posted: 11 Nov 2016 Last revised: 24 Dec 2016

Sven Klingler

BI Norwegian Business School

Date Written: December 23, 2016

Abstract

I develop a simple model in which hedge fund managers with access to less profitable investment strategies choose a higher exposure to funding risk in an attempt to generate competitive returns. Empirically, I find that hedge funds with a higher loading on a simple funding risk measure generate lower returns than hedge funds with a lower loading on that risk measure. In line with the model predictions, I find that (i) this underperformance is driven by a high loading on adverse funding shocks, (ii) a higher loading on funding risk predicts lower fund flows, and (iii) the results are significantly weaker for funds with less favorable redemption terms or funds with multiple prime brokers.

Keywords: Fund redemptions, funding risk, hedge funds, limits of arbitrage, lockups

JEL Classification: G01, G23, G31

Suggested Citation

Klingler, Sven, High Funding Risk, Low Return (December 23, 2016). Available at SSRN: https://ssrn.com/abstract=2868062 or http://dx.doi.org/10.2139/ssrn.2868062

Sven Klingler (Contact Author)

BI Norwegian Business School ( email )

Nydalsveien 37
Oslo, 0442
Norway

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