Hedge Funds and Prime Broker Risk

51 Pages Posted: 19 Jun 2019 Last revised: 4 Jun 2024

See all articles by Magnus Dahlquist

Magnus Dahlquist

Stockholm School of Economics; Swedish House of Finance

Simon Rottke

University of Amsterdam - Finance Group; Tinbergen Institute

Valeri Sokolovski

University of Alberta - School of Business

Erik Sverdrup

Stanford University

Date Written: January 15, 2023


We show that large adverse shocks to an individual prime broker only impact the performance of hedge funds using the affected broker exclusively, highlighting the diversifiability of idiosyncratic shocks. Conversely, we find systematic financial intermediary risk a significant determinant in the cross-section of hedge fund returns. Moreover, the average hedge fund's exposure to this risk exceeds the aggregate risk of its holdings. This incremental exposure is asymmetric, driven solely by negative intermediary shocks. In contrast, mutual funds and other risk factors show no similar effect. Our findings underscore the unique risks of hedge funds due to their prime brokerage dependencies.

Keywords: Hedge funds, financial intermediary risk, prime brokers, systematic risk, idiosyncratic risk.

JEL Classification: G12, G23, G24.

Suggested Citation

Dahlquist, Magnus and Rottke, Simon and Sokolovski, Valeri and Sverdrup, Erik, Hedge Funds and Prime Broker Risk (January 15, 2023). Swedish House of Finance Research Paper No. 19-8, Available at SSRN: https://ssrn.com/abstract=3396632 or http://dx.doi.org/10.2139/ssrn.3396632

Magnus Dahlquist

Stockholm School of Economics ( email )

Drottninggatan 98
Stockholm, SE-111 60

Swedish House of Finance ( email )

Drottninggatan 98
111 60 Stockholm

Simon Rottke

University of Amsterdam - Finance Group ( email )

Roetersstraat 18
Amsterdam, 1018 WB

Tinbergen Institute ( email )

Burg. Oudlaan 50
Rotterdam, 3062 PA

Valeri Sokolovski (Contact Author)

University of Alberta - School of Business ( email )

2-43 Business Building
Edmonton, Alberta T6G 2C7

Erik Sverdrup

Stanford University ( email )

Stanford, CA 94305
United States

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