Picking Winners? Selecting Hedge Funds for a Diversified Portfolio

64 Pages Posted: 11 Sep 2017 Last revised: 26 Mar 2019

See all articles by Nicolas P. B. Bollen

Nicolas P. B. Bollen

Vanderbilt University - Finance

Juha Joenväärä

University of Oulu - Economics; Imperial College London; University of Maryland - Robert H. Smith School of Business

Mikko Kauppila

University of Oulu

Date Written: March 21, 2019

Abstract

This paper studies whether the performance of a stock/bond portfolio is improved by an allocation to hedge funds selected using a wide array of predictors from existing research. Performance is assessed using standard metrics and a novel simulation procedure that permits probabilistic inference. The benefit realized by investors deteriorates after reversing upward biases in returns and constraining the number of hedge funds selected. Even after controlling for these issues, seven of the predictors reliably select funds that raise the Sharpe ratio of a stock/bond portfolio over the full 1997 – 2016 sample. Sub-sample analysis shows the benefit disappears after 2007.

Keywords: hedge fund performance, skill, timing, incentives, systematic risk, tail risk

JEL Classification: G11, G12, G14, C31

Suggested Citation

Bollen, Nicolas P.B. and Joenvaara, Juha and Kauppila, Mikko, Picking Winners? Selecting Hedge Funds for a Diversified Portfolio (March 21, 2019). Vanderbilt Owen Graduate School of Management Research Paper No. 3034283. Available at SSRN: https://ssrn.com/abstract=3034283 or http://dx.doi.org/10.2139/ssrn.3034283

Nicolas P.B. Bollen (Contact Author)

Vanderbilt University - Finance ( email )

401 21st Avenue South
Nashville, TN 37203
United States

Juha Joenvaara

University of Oulu - Economics ( email )

Finland

Imperial College London

South Kensington Campus
Exhibition Road
London, Greater London SW7 2AZ
United Kingdom

University of Maryland - Robert H. Smith School of Business ( email )

Mikko Kauppila

University of Oulu ( email )

P.O. Box 4600
Oulu FIN-90014
Finland

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