Three essays on hedge funds characteristics, performance, risk and managerial incentives
This dissertation studies hedge funds' characteristics, performance and risk, as well as their managerial incentives.
In essay one, we find that similar to non-financial industries, there is a balanced allocation to business risk and financing risk in hedge funds. Empirically we find stylized pattern in the leverage ratio hedge fund managers use. Namely, the managers with higher strategy riskiness tend to use lower leverage and vice versa. What is more, this relationship is weaker for the "really dead" funds. We construct an empirical measure for leverage ratio to detect actual leverage usage for hedge funds. With a manually constructed and identified sample containing live and "really dead" funds, we are able to examine how leverage usage affect fund survival probability using a standard probit model.
The second essay studies the timing ability of the famous trend followers in hedge funds---the CTAs. In contrast to mutual funds and hedge funds, CTAs trade a limited number of futures contracts and option. This feature enables a clean test for market timing ability in this group of managers. We propose new factors for popular market timing models to overcome the difficulty that traditional models provide poor explanatory power for CTA returns. With a multi-market version of both Trenor and Mazuy (1966), Henriksson and Merton (1981) models, we confirm that CTAs have both return and volatility timing ability in multiple markets. We are also able to identify the markets in which different categories of CTAs have timing ability.
We explore the managerial incentives and risk-taking behavior for hedge funds and funds of funds in essay three. We find evidence that hedge funds shift their risk-taking in response to the high-water mark and to relative performance. Our findings disclose the underlying managerial incentives due to career concern as well as asymmetric payoff structure. We also compare the managerial incentive of junior vs more seasoned FOF managers in terms of diversification level and risk exposures. We find that consistent with the "herding" and "signaling" literature for mutual funds.