Share Restrictions and Asset Pricing: Evidence from the Hedge Fund Industry

Abstract

This paper presents evidence on the relation between hedge fund returns and restrictions imposed by funds that limit the liquidity of fund investors. The excess returns of funds with lockup restrictions are approximately 4-7% per year higher than those of non-lockup funds. The average alpha of all funds is negative or insignificant after controlling for lockups and other share restrictions. I also find a negative relation between share restrictions and the liquidity of the fund's portfolio. This suggests that share restrictions allow funds to efficiently manage illiquid assets, and these benefits are captured by investors as a share illiquidity premium.

Keywords: Liquidity, transactions costs, hedge funds

JEL Classification: G11, G12