Relative Hedge Fund Skill and the Informativeness of Cohort Alpha

58 Pages Posted: 25 Jan 2018 Last revised: 24 May 2018

See all articles by David Forsberg

David Forsberg

Macquarie University - Macquarie Graduate School of Management

David R. Gallagher

Capital Markets CRC Limited

Geoff Warren

Australian National University (ANU) - Research School of Finance, Actuarial Studies and Statistics

Date Written: May 21, 2018

Abstract

We propose a cohort model for evaluating hedge funds against peer groups that execute similar investment strategies. The method improves the identification of manager skill by addressing the omitted variable problem present in traditional factor models, as well as constructing unique style groupings that can enhance the construction of hedge fund of- funds portfolios. The model displays strong ability to explain hedge fund returns out-of-sample, with cohort alpha more persistent than alpha based on the seven-factor model. A hedge fund-of-funds analysis finds significant performance enhancement from exposure to the best funds within each cohort.

Keywords: hedge funds; peer groups; clustering; relative performance; performance persistence

JEL Classification: G23

Suggested Citation

Forsberg, David and Gallagher, David R. and Warren, Geoffrey J., Relative Hedge Fund Skill and the Informativeness of Cohort Alpha (May 21, 2018). Available at SSRN: https://ssrn.com/abstract=3104261 or http://dx.doi.org/10.2139/ssrn.3104261

David Forsberg

Macquarie University - Macquarie Graduate School of Management ( email )

David R. Gallagher (Contact Author)

Capital Markets CRC Limited ( email )

GPO Box 970
55 Harrington Street
Sydney, NSW 2001
Australia

Geoffrey J. Warren

Australian National University (ANU) - Research School of Finance, Actuarial Studies and Statistics ( email )

CBE Building 26C
Kingsley Sreet, Acton
Canberra, ACT 0200
Australia

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