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A method of estimating changes in correlation between assets and its application to hedge fund investment

Author

Listed:
  • R Spurgin

    (Graduate School of Management, Clark University)

  • G Martin

    (Research Director of the Center for International Securities and Derivatives Markets at the University of Massachusetts, and Research Director for TRS Associates)

  • T Schneeweis

    (Professor of Finance at the School of Management at the University of Massachusetts in Amherst)

Abstract

One of the difficult problems in asset allocation is accounting for changes in the correlation between assets and asset classes. This problem is particularly evident among hedge funds, where many strategies that appear uncorrelated with the stock market for long periods of time suddenly become highly correlated with the market during periods of substantial market decline. The standard market-model for securities assumes constant correlation. This paper outlines a simple econometric method for determining whether assets exhibit time-varying correlation, and for estimating the rate of change. This method is tested using monthly returns for a number of hedge fund indexes to predict changes in the correlation of these indexes with the S&P500 stock index.

Suggested Citation

  • R Spurgin & G Martin & T Schneeweis, 2001. "A method of estimating changes in correlation between assets and its application to hedge fund investment," Journal of Asset Management, Palgrave Macmillan, vol. 1(3), pages 217-230, January.
    • Handle: RePEc:pal:assmgt:v:1:y:2001:i:3:d:10.1057_palgrave.jam.2240016
    DOI: 10.1057/palgrave.jam.2240016
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    Cited by:

    1. Maximilian A M Vermorken, 2011. "GICS or ICB, how different is similar?," Journal of Asset Management, Palgrave Macmillan, vol. 12(1), pages 30-44, April.

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