Can Investors Benefit from Hedge Fund Strategies? Utility‐Based, Out‐of‐Sample Evidence

62 Pages Posted: 10 Oct 2018

See all articles by Massimo Guidolin

Massimo Guidolin

Bocconi University - Department of Finance

Alexei G. Orlov

Securities and Exchange Commission

Date Written: August 2018

Abstract

We report systematic, out-of-sample evidence on the benefits to an already well diversified investor that may derive from further diversification into various hedge fund strategies. We investigate dynamic strategic asset allocation decisions that take into account investors’ preferences as well as return predictability. Our results suggest that not all hedge fund strategies benefit a long-term investor who is already well diversified across stocks, government and corporate bonds, and REITs. Only strategies whose payoffs are highly nonlinear (e.g., fixed income relative value and convertible arbitrage), and therefore not easily replicable, constitute viable options. Most of the realized economic value fails to result from a mean-variance type of improvement but comes instead from an improvement in realized higher-moment properties of optimal portfolios. Medium to highly risk-averse investors benefit the most from this alternative asset class.

Keywords: Strategic asset allocation, hedge fund strategies, predictive regressions, out-of sample performance, certainty equivalent return

JEL Classification: G11, G17, G12, C53

Suggested Citation

Guidolin, Massimo and Orlov, Alexei G., Can Investors Benefit from Hedge Fund Strategies? Utility‐Based, Out‐of‐Sample Evidence (August 2018). BAFFI CAREFIN Centre Research Paper No. 2018-90. Available at SSRN: https://ssrn.com/abstract=3260412 or http://dx.doi.org/10.2139/ssrn.3260412

Massimo Guidolin (Contact Author)

Bocconi University - Department of Finance ( email )

Via Roentgen 1
Milano, MI 20136
Italy

Alexei G. Orlov

Securities and Exchange Commission ( email )

100 F Street NE
Washington, DC 20549
United States

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