Investments, tenth edition

    1.  Like mutual funds, hedge funds pool the assets of several clients and manage the pooled assets on 

their behalf. However, hedge funds differ from mutual funds with respect to disclosure, investor 

base, flexibility and predictability of investment orientation, regulation, and fee structure.  

   2.  Directional funds take a stance on the performance of broad market sectors. Nondirectional funds 

establish market-neutral positions on relative mispricing. However, even these hedged positions 

still present idiosyncratic risk.  

   3.  Statistical arbitrage is the use of quantitative systems to uncover many perceived misalignments 

in relative pricing and ensure profits by averaging over all of these small bets. It often uses 

data-mining methods to uncover past patterns that form the basis for the established investment 

positions.  

   4.  Portable alpha is a strategy in which one invests in positive-alpha positions, then hedges the sys-

tematic risk of that investment, and, finally, establishes market exposure where desired by using 

passive indexes or futures contracts.  

   5.  Performance evaluation of hedge funds is complicated by survivorship bias, by the potential 

instability of risk attributes, by the existence of liquidity premiums, and by unreliable market 

valuations of infrequently traded assets. Performance evaluation is particularly difficult when the 

fund engages in option positions. Tail events make it hard to assess the true performance of posi-

tions involving options without extremely long histories of returns.  

   SUMMARY 

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7/25/13   2:04 AM

7/25/13   2:04 AM

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  C H A P T E R  

2 6

 Hedge 

Funds 

947

  hedge  funds  

  lock-up  periods  

  directional  strategy  

  nondirectional  strategy  

  market  neutral  

  pure  plays  

  statistical  arbitrage  

  pairs  trading  

  data  mining  

  portable  alpha  

  alpha  transfer  

  backfill  bias  

  survivorship  bias  

  incentive  fee  

  high  water  mark  

  funds  of  funds