Hedge-Fund Benchmarks: Information Content and Biases

Published

Journal Article

We discuss the information content and potential measurement biases in hedge-fund benchmarks. Hedge-fund indexes built from databases of individual hedge funds inherit the measurement biases in the databases. In addition, broad-based indexes mask the diversity of individual hedge-fund return characteristics. Consequently, these indexes provide incomplete information to investors seeking diversification from traditional asset classes through the use of hedge funds. The approach to constructing hedge-fund benchmarks we propose is based on the simple idea that the most direct way to measure hedge-fund performance is to observe the investment experience of hedge-fund investors themselves - the funds of hedge funds (FOFs). In terms of measurement biases, returns of FOFs can deliver a cleaner estimate of the investment experience of hedge-fund investors than the traditional approach. In terms of risk characteristics, indexes of FOFs are more indicative of the demand-side dynamics driven by hedge-fund investors' preferences than are broad-based indexes. Therefore, indexes of FOFs can provide valuable information for assessing the hedge-fund industry's performance.

Full Text

Duke Authors

Cited Authors

  • Fung, W; Hsieh, DA

Published Date

  • January 1, 2002

Published In

Volume / Issue

  • 58 / 1

Start / End Page

  • 22 - 34

International Standard Serial Number (ISSN)

  • 0015-198X

Digital Object Identifier (DOI)

  • 10.2469/faj.v58.n1.2507

Citation Source

  • Scopus