Identifying Hedge Fund Skill Using Peer Cohorts

Forsberg, David and Gallagher, David R. and Warren, Geoffrey J., Identifying Hedge Fund Skill Using Peer Cohorts (15 April 2021). Financial Analysts Journal, 2021, 77(2): 97-123. Available at SSRN: https://ssrn.com/abstract=3104261 or http://dx.doi.org/10.2139/ssrn.3104261

70 Pages Posted: 25 Jan 2018 Last revised: 4 Oct 2021

See all articles by David Forsberg

David Forsberg

Rozetta Institute

David R. Gallagher

Rozetta Institute

Geoff Warren

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

Date Written: January 6, 2021

Abstract

We propose a cohort model that evaluates hedge funds against peer groups executing similar investment strategies formed using return correlations. Our method improves identification of skilled managers, as evidenced by a strong ability to explain hedge fund returns out-of-sample together with cohort alpha being more persistent than alpha based on the widely-accepted seven-factor model. A hedge fund-of-funds analysis finds significant performance enhancement from exposure to the best funds within each cohort. The cohort approach can enhance the construction of hedge fund-of-funds portfolios by isolating strategy groupings as well as the best managers within each group.

Keywords: Hedge funds, performance evaluation, performance persistence, manager selection, portfolio construction, cluster analysis

JEL Classification: G23

Suggested Citation

Forsberg, David and Gallagher, David R. and Warren, Geoffrey J., Identifying Hedge Fund Skill Using Peer Cohorts (January 6, 2021). Forsberg, David and Gallagher, David R. and Warren, Geoffrey J., Identifying Hedge Fund Skill Using Peer Cohorts (15 April 2021). Financial Analysts Journal, 2021, 77(2): 97-123. Available at SSRN: https://ssrn.com/abstract=3104261 or http://dx.doi.org/10.2139/ssrn.3104261, Available at SSRN: https://ssrn.com/abstract=3104261 or http://dx.doi.org/10.2139/ssrn.3104261

David Forsberg

Rozetta Institute ( email )

Sydney

David R. Gallagher (Contact Author)

Rozetta Institute ( email )

Sydney

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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