Investments, tenth edition

Fund Group*

Alpha

S&P 500

Long T-Bond

Credit Premium

U.S. Dollar

All funds

0.0052

3.3487

0.2718

5.0113

0.0189

0.3064

0.1755

2.0462

2

0.1897

2

2.1270

Market neutral

0.0014

0.1990

0.1677

0.6917

2

0.0163

2

0.0589

0.3308

0.8631

2

0.5097

2

1.2790

Short bias

0.0058

1.3381

2

0.9723

2

6.3684

0.1310

0.7527

0.3890

1.6113

2

0.2630

2

1.0476

Event driven

0.0071

5.1155

0.2335

4.7858

      0.0000

2

0.0002

0.2056

2.6642

2

0.1165

0.1520

Risk arbitrage

0.0034

3.0678

0.1498

3.8620

0.0130

0.0442

2

0.0006

2

0.0097

2

0.2130

2

3.3394

Distressed

0.0068

5.7697

0.2080

4.9985

0.0032

0.0679

0.2521

3.8318

2

0.1156

2

1.6901

Emerging markets

0.0082

2.8867

0.3750

3.7452

0.2624

2.2995

0.4551

2.8748

2

0.2169

2

1.3173

Fixed Income

0.0018

1.0149

0.1719

2.8139

0.2284

3.2806

0.5703

5.9032

2

0.1714

2

1.7063

Convertible arb

0.0005

0.2197

0.2477

3.1066

0.2109

2.3214

0.5021

3.9825

2

0.0972

2

0.7414

Global macro

0.0079

3.5217

0.0746

0.9437

0.0593

0.6587

0.1492

1.1938

2

0.2539

2

1.9533

Long-short equity

0.0053

2.5693

0.4442

6.1425

2

0.0070

2

0.0850

0.0672

0.5874

2

0.1471

2

1.2372

Managed futures

0.0041

0.8853

0.2565

1.5944

2

0.2991

2

1.6310

2

0.5223

2

2.0528

2

0.2703

2

1.0217

Multistrategy

0.0075

4.2180

0.2566

4.1284

2

0.0048

2

0.0684

0.1781

1.8116

2

0.1172

2

1.1471

 Table 26.2 

 Style analysis for a sample of hedge fund indexes 

  *Fund definitions are given in  Table 26.1 .  

  Note: Top line of each entry is the estimate of the factor beta. Lower line is the  t -statistic for that estimate.  

 Source: Authors’ calculations. Hedge fund returns are on indexes computed by Credit Suisse/Tremont Index, LLC, available at 

  www.hedgeindex.com   .  

 Analyze the betas of the fixed-income arbitrage index in  Table 26.2 . On the basis of these results, are these 

funds typically market neutral? If not, do their factor exposures make sense in terms of the markets in 

which they operate? 

 CONCEPT CHECK 

26.3 

  Table 26.3  shows basic performance data for a collection of hedge fund indexes computed 

from the standard index model with the S&P 500 used as the market benchmark. The 

model is estimated using monthly excess returns over the period January 2005 through 

    26.5 

Performance Measurement for Hedge Funds  

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P A R T   V I I

  Applied Portfolio Management

November 2011. We report for each index the beta relative to the S&P 500, the serial cor-

relation of returns, the Sharpe ratio, and the alpha. Betas tend to be considerably less than 

one; not surprisingly, the beta of the short bias index is large and negative. The market-

neutral index has a beta near zero.  

 By and large, hedge fund performance is impressive. Most of the alpha estimates are 

positive, and the average alpha is substantial, 0.17% per month. Similarly, most Sharpe 

ratios exceed that of the S&P 500, and the average Sharpe ratio across hedge fund groups, 

0.123, is four times that of the S&P 500. What might be the source of such performance? 

 One possibility, of course, is the obvious one: These results may reflect a high degree of 

skill among hedge fund managers. Another possibility is that funds maintain some expo-

sure to omitted risk factors that convey a positive risk premium. One likely candidate 

for such a factor would be liquidity, and we will see shortly that liquidity and liquidity 

risk are associated with average returns. Moreover, several other factors make hedge fund 

performance difficult to evaluate, and these too are worth considering.