Assessing and Valuing the Non-Linear Structure of Hedge Fund Returns

Several studies have put forward that hedge fund returns exhibit a non-linear relationship with equity market returns, captured either through constructed portfolios of traded options or piece-wise linear regressions.

Author(s):

Antonio Diez de los Rios

Rene Garcia

EDHEC Business School

This paper provides a statistical methodology to unveil such non-linear features with the returns on any selected benchmark index. We estimate a portfolio of options that best approximates the returns of a given hedge fund, account for this search in the statistical testing of the contingent claim features, and test whether the identifed non-linear features have a positive value. We find that not all indexes for categories of funds exhibit significant non-linearities, and that only a few strategies as a group provide significant value to investors. Our methodology helps identify individual funds that provide value in an otherwise poorly performing category.

Type: Working paper
Date: le 05/11/2007
Research Cluster : Finance

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