Hedge fund performance persistence after weak markets
1University of Oulu, Oulu Business School, Department of Finance, Finance
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Oulu : K. Finnilä,
Our aim for this thesis is to study whether hedge fund performance persists after weak markets, and do the results differ from performance persistence after strong markets. We are interested in overall market situations’ impact on performance persistence of hedge funds. Our data is from Lipper TASS hedge fund database, with 18891 hedge funds and 1261782 observations from December 1993 to June 2013. The data is modified so that we’ve cleared out non-USD funds, non-monthly filing funds, and funds with unknown strategy. We’ve also excluded the first 18 months of returns for every fund to control the backfill bias. This leaves us with 9107 funds. We divide the time series into periods of recessions and expansions based on the overall stock market situation. The main recession periods are the dot-com bubble from 31st May 2000 to 30th September 2002 and the financial crisis from 31st August 2007 to 28th February 2009. Otherwise the time periods between 30th June 1997 to 30th June 2013 are considered as expansion periods. The main steps after cleaning our data are: First we calculate the logarithmic excess returns of the funds. Then we use the Fung and Hsieh seven factor model over the past 12 months’ returns to estimate the time-varying t-value of alpha for each fund. Next we sort the funds into decile portfolios based on their t-values of alpha. After that we calculate the monthly equal-weighted returns for the decile portfolios using three-month and twelve-month holding periods. We also calculate the monthly equal weighted returns for the spread portfolio between the top and bottom portfolios. Next, we calculate for the decile portfolios the annualized mean, standard deviation, Sharpe ratio, t value of Sharpe ratio, p-value of Sharpe ratio, annualized Fung-Hsieh seven-factor alpha, t value of alpha and p-value of alpha. The null-hypothesis is that there is no difference in performance persistence after recession and expansion periods. What we can conclude from our results is that badly performing portfolios likely keep on performing badly despite the overall market situation, and even though there is some indications that the very best portfolios can make at least short-term profit even in bust periods, the performance is not persistent. We cannot identify the skilled fund managers from others by looking at hedge fund’s performance during market crisis. For further studies, the Lipper TASS database’s information of the hedge fund strategy categories could be used to identify the underlying factors in conditional performance persistence of hedge funds.
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