High Funding Risk, Low Return
60 Pages Posted: 11 Nov 2016 Last revised: 24 Dec 2019
Date Written: August 30, 2019
Guided by a simple model in which hedge fund managers with access to less-profitable investment strategies take more funding risk, I show that funds with a high exposure to market-wide funding shocks - measured by changes in Libor-OIS spreads - subsequently underperform funds with a low exposure to market-wide funding shocks by $5.99\%$ annually on a risk-adjusted basis (t=3.53). In line with my theory, the performance difference between low-funding-risk and high-funding-risk funds is largest and most significant when funding constraints are most binding and for funds with higher unwinding costs.
Keywords: Funding Risk, Hedge Funds, Interbank Risk, Libor, Liquidity
JEL Classification: G01, G23, G31
Suggested Citation: Suggested Citation