During a financial crisis, when markets most need liquidity and arbitrage tradings, hedge funds often reduce their exposures and positions. The paper explains this phenomenon in light of coordination risk. We argue that the fragile nature of capital structure of hedge funds, combined with low...

The use of leverage is often considered a key potential systemic risk in hedge funds. Yet, data limitations have made empirical analyses of hedge fund leverage difficult. Traditional theories predict leverage and portfolio risk are positively linearly related. Alternatively, an emerging wave of...

Banking operations are being rewired around a pair of KVA/FVA metrics which quantify market incompleteness, i.e. the impossibility of perfect replication. The FVA is the cost of funding of debt liabilities while the KVA is the risk adjustment for equity liabilities, also called cost of capital....

Ratios that indicate the statistical significance of a fund’s alpha typically appraise its performance. A growing literature suggests that even in the absence of any ability to predict returns, holding options positions on the benchmark assets or trading frequently can significantly enhance...

Hedge funds significantly reduced their equity holdings during the recent financial crisis. In 2008Q3-Q4, hedge funds sold about 29% of their aggregate portfolio. Redemptions and margin calls were the primary drivers of selloffs. Consistent with forced deleveraging, the selloffs took place in...

We find evidence that hedge funds significantly manipulate stock prices on critical reporting dates. We document that stocks held by hedge funds experience higher returns on the last day of the quarter, followed by a reversal the next day. For example, the stocks in the top quartile of hedge...

We examine the relative weights hedge fund investors attach to past information in the fund selection process. The weighting scheme appears inconsistent with econometric forecasting models that predict fund returns, alphas or Sharpe ratios. In particular, investor flows are highly sensitive to...

We measure misvaluation using the discounted residual income model of Ohlson (1990, 1995). We show that there are significant returns on a long-short portfolio that buys under- and sells short overvalued shares. These returns are highly correlated with the Fama and French HML factor returns and...

We study how capital flows affect hedge fund returns. The contemporaneous relation is positive: funds with high flows outperform funds with low flows during the month of the flows. This immediate reaction, combined with feedback trading, gives rise to a cycle: flows exert price pressure, this...

We quantify risks associated with investor behavior using several asset pricing models and hedge fund data. After finding that irrational sentiments play a role in hedge fund returns, our multi-beta CAPM estimations reveal that beta belonging to irrational component varies around .037 for risky...