IDEAS home Printed from https://ideas.repec.org/p/ysm/wpaper/amz2597.html
   My bibliography  Save this paper

The A,B,Cs of Hedge Funds: Alphas, Betas, and Costs

Author

Listed:
  • Roger Ibbotson
  • Peng Chen

Abstract

In this paper, we focus on two issues. First, we analyze the potential biases in reported hedge fund returns, in particular survivorship bias and backfill bias, and attempt to create an unbiased return sample. Second, we decompose these returns into their three A,B,C components: the value added by hedge funds (alphas), the systematic market exposures (betas), and the hedge fund fees (costs). We analyze the performance of a universe of about 3,500 hedge funds from the TASS database from January 1995 through April 2006. Our results indicate that both survivorship and backfill biases are potentially serious problems. The equally weighted performance of the funds that existed at the end of the sample period had a compound annual return of 16.45% net of fees. Including dead funds reduced this return to 13.62%. Excluding backfill further reduced the return to 8.98%, net of fees. In this last sample, we estimate a pre-fee return of 12.72%, which we split into a fee (3.74%), an alpha (3.04%), and a beta return (5.94%). Overall, even after correcting for data biases, we find that the alphas are significantly positive and are approximately equal to the fees, meaning that excess returns were shared roughly equally between hedge fund managers and their investors.

Suggested Citation

  • Roger Ibbotson & Peng Chen, 2005. "The A,B,Cs of Hedge Funds: Alphas, Betas, and Costs," Yale School of Management Working Papers amz2597, Yale School of Management, revised 01 Sep 2005.
    • Handle: RePEc:ysm:wpaper:amz2597
    as

    Download full text from publisher

    File URL: https://repec.som.yale.edu/icfpub/publications/2597.pdf
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Brown, Stephen J & Goetzmann, William N & Ibbotson, Roger G, 1999. "Offshore Hedge Funds: Survival and Performance, 1989-95," The Journal of Business, University of Chicago Press, vol. 72(1), pages 91-117, January.
    2. Mrs. Anne C Jansen & Mr. Donald J Mathieson & Mr. Barry J. Eichengreen & Ms. Laura E. Kodres & Mr. Bankim Chadha & Mr. Sunil Sharma, 1998. "Hedge Funds and Financial Market Dynamics," IMF Occasional Papers 1998/009, International Monetary Fund.
    3. Fung, William & Hsieh, David A., 2000. "Performance Characteristics of Hedge Funds and Commodity Funds: Natural vs. Spurious Biases," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 35(3), pages 291-307, September.
    4. Posthuma, Nolke & Sluis, Pieter Jelle van der, 2003. "A Reality Check on Hedge Funds Returns," Serie Research Memoranda 0017, VU University Amsterdam, Faculty of Economics, Business Administration and Econometrics.
    5. Fung, William & Hsieh, David A, 1997. "Empirical Characteristics of Dynamic Trading Strategies: The Case of Hedge Funds," The Review of Financial Studies, Society for Financial Studies, vol. 10(2), pages 275-302.
    6. William Fung & David A. Hsieh, 2004. "Hedge Fund Benchmarks: A Risk-Based Approach," Financial Analysts Journal, Taylor & Francis Journals, vol. 60(5), pages 65-80, September.
    7. Liang, Bing, 2000. "Hedge Funds: The Living and the Dead," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 35(3), pages 309-326, September.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Geetesh Bhardwaj & Gary Gorton & K. Rouwenhorst, 2008. "Fooling Some of the People All of the Time: The Inefficient Performance and Persistence of Commodity Trading Advisors," Yale School of Management Working Papers amz2429, Yale School of Management.
    2. Felix Goltz & Lionel Martellini & Mathieu Vaissié, 2007. "Hedge Fund Indices: Reconciling Investability and Representativity," European Financial Management, European Financial Management Association, vol. 13(2), pages 257-286, March.
    3. Bussière, Matthieu & Hoerova, Marie & Klaus, Benjamin, 2015. "Commonality in hedge fund returns: Driving factors and implications," Journal of Banking & Finance, Elsevier, vol. 54(C), pages 266-280.
    4. Bill Ding & Hany A. Shawky, 2007. "The Performance of Hedge Fund Strategies and the Asymmetry of Return Distributions," European Financial Management, European Financial Management Association, vol. 13(2), pages 309-331, March.
    5. Roger Ibbotson & Peng Chen, 2005. "The A,B,Cs of Hedge Funds: Alphas, Betas, and Costs," Yale School of Management Working Papers amz2597, Yale School of Management, revised 01 Sep 2005.
    6. Ying Li & Hossein Kazemi, 2007. "Conditional Properties of Hedge Funds: Evidence from Daily Returns," European Financial Management, European Financial Management Association, vol. 13(2), pages 211-238, March.
    7. Gregoriou, Greg N. & Sedzro, Komlan & Zhu, Joe, 2005. "Hedge fund performance appraisal using data envelopment analysis," European Journal of Operational Research, Elsevier, vol. 164(2), pages 555-571, July.
    8. Benoît Dewaele, 2013. "Portfolio Optimization for Hedge Funds through Time-Varying Coefficients," Working Papers CEB 13-032, ULB -- Universite Libre de Bruxelles.
    9. Martin Eling, 2009. "Does Hedge Fund Performance Persist? Overview and New Empirical Evidence," European Financial Management, European Financial Management Association, vol. 15(2), pages 362-401, March.
    10. Vikas Agarwal & Vyacheslav Fos & Wei Jiang, 2013. "Inferring Reporting-Related Biases in Hedge Fund Databases from Hedge Fund Equity Holdings," Management Science, INFORMS, vol. 59(6), pages 1271-1289, June.
    11. Fan Yang & Tomas Havranek & Zuzana Irsova & Jiri Novak, 2022. "Hedge Fund Performance: A Quantitative Survey," Working Papers IES 2022/15, Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies, revised Jun 2022.
    12. Andrew W. Lo & Mila Getmansky & Peter A. Lee, 2015. "Hedge Funds: A Dynamic Industry in Transition," Annual Review of Financial Economics, Annual Reviews, vol. 7(1), pages 483-577, December.
    13. Bali, Turan G. & Gokcan, Suleyman & Liang, Bing, 2007. "Value at risk and the cross-section of hedge fund returns," Journal of Banking & Finance, Elsevier, vol. 31(4), pages 1135-1166, April.
    14. Bok Baik & Jin-Mo Kim & Kyonghee Kim & Sukesh Patro, 2020. "Hedge fund ownership and voluntary disclosure," Review of Quantitative Finance and Accounting, Springer, vol. 54(3), pages 877-910, April.
    15. Benoît Dewaele, 2013. "Leverage and Alpha: The Case of Funds of Hedge Funds," Working Papers CEB 13-033, ULB -- Universite Libre de Bruxelles.
    16. Hwang, Inchang & Xu, Simon & In, Francis & Kim, Tong Suk, 2017. "Systemic risk and cross-sectional hedge fund returns," Journal of Empirical Finance, Elsevier, vol. 42(C), pages 109-130.
    17. Douglas Cumming & Na Dai, 2010. "A Law and Finance Analysis of Hedge Funds," Financial Management, Financial Management Association International, vol. 39(3), pages 997-1026, September.
    18. Rajna Gibson & Sébastien Gyger, 2007. "The Style Consistency of Hedge Funds," European Financial Management, European Financial Management Association, vol. 13(2), pages 287-308, March.
    19. Agarwal, Vikas & Fos, Vyacheslav & Jiang, Wei, 2010. "Inferring reporting biases in hedge fund databases from hedge fund equity holdings," CFR Working Papers 10-08, University of Cologne, Centre for Financial Research (CFR).
    20. Wilkens, Marco & Yao, Juan & Jeyasreedharan, Nagaratnam & Oehler, Patrick, 2013. "Measuring the performance of hedge funds using two-stage peer group benchmarks," Working Papers 2013-18, University of Tasmania, Tasmanian School of Business and Economics, revised 01 Jun 2013.

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:ysm:wpaper:amz2597. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: the person in charge (email available below). General contact details of provider: https://edirc.repec.org/data/smyalus.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.