The Performance Life Cycle of Hedge Funds: Can Investors Achieve Lasting Performance?
The Journal of Portfolio Management
Posted: 10 May 2018 Last revised: 1 Nov 2021
Date Written: June 7, 2020
Our study examines the performance life cycle of hedge funds. Performance declines with age are
pervasive, not just for the average hedge fund, but also for past winners and for funds with
characteristics that predict cross-sectional fund returns. We examine several possible mechanisms
and we find that fund growth and decreasing performance incentives of fund managers contribute
to performance declines with age. Performance declines in early years coincide with a sharp drop
in strategy distinctiveness, which suggests that declines relate to the inability to maintain strategy
secrecy. Horse racing analysis suggests that investors can exploit life cycle mechanisms, as
portfolios of funds that are small and that have strong performance incentives (regardless of age)
deliver superior performance with greater consistency than even past winners do.
Keywords: Hedge Funds, Performance Life Cycle, Fund Size, Performance Incentives, Strategy Distinctiveness
JEL Classification: G20, G23, G29
Suggested Citation: Suggested Citation