Literature review of hedge funds performance persistence.

Dr Michel Zaki Guirguis Date:21/02/2021

94, Terpsichoris road

Palaio-Faliro
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Athens
Greece
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E-mail: [email protected]

Abstract

This paper examines in detail the literature review of hedge funds performance
persistence. Hedge funds are also known as alternative investments that are suited to
institutional investors or wealthy investors with significant experience and knowledge
in investment. They are used to hedge different types of risk by using derivatives
products. Hedge fund managers use call and put options, commodity futures, forward
contracts, index, currency and fixed income options and futures to hedge credit risk,
market risk, country risk, sector risk, company risk, interest rate risk and currency
risk. They try to reduce risk, offset loses and positively increase the performance of
the fund. They are not liquid as they use a lockup period for a certain period of time.
They are used from wealthy investors that have a capital higher than 250,000 USD. In
some cases the invested capital could be 1,000,000 USD or more than 10,000,000
USD.

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Ackermann, McEnally, Ravenscraft, (1999), examined both US and offshore hedge
funds monthly data from the period 1988 to 1995. They have used monthly data to
increase the accuracy of the standard deviation as a measure of risk. The database that
they have used is Database Managed Account Reports, (MAR) and Hedge Fund
Research, (HFR). The total number of funds that was covered in their study was 906
funds. Returns were calculated as net of management fees, incentive fees and other
expenses. They investigated whether investment strategies, management investment,
high incentives, sophisticated investors and limited government regulation affects the
performance of hedge funds. They found that hedge funds outperform mutual funds
but not market indices. They compared hedge funds with eight market indices. They
outperformed the market by using gross returns. They are volatile investment vehicles
and increased performance is due to incentive fees. An increase in the incentive fee to
the median value of 20% results to an average increase of the Sharpe ratio of 66%.
They investigated a multi – period sampling bias and self-selection bias of defunct
funds of US funds. The effect of variance in performance return is bigger for
disappearing funds. Termination and self-selection bias were the most common bias.
Funds that terminated have lower median figure. From 1990 to 1995, hedge funds
outperform the market. Their performance return is superior to cover their costs given
that returns are net of fees and expenses. Brown, Goetzamann and Ibbotson, (1999),
examined the performance of offshore hedge funds and found a positive performance
return, but not performance persistence due to managerial skill. In addition, they
found 3 percentage points of survivorship bias each year.

Amenc, Curtis, Matellini, (2004), measured hedge fund managers' ability to generate
superior performance. They observed that hedge funds have significantly positive
alphas when an explicit factor model measures returns. On average hedge funds do
not have significantly positive alphas when implicit factors are included. Running a
regression equation of hedge funds returns on lagged and current market indices was
an attempt to measure performance. They have also used CAPM single factor model
and a multi-factor model and other methodologies to calculate performance returns.
As an example, we can mention Ferson and Schadt, (1996), conditional performance
model based on public information variables. Their sample consisted of the 581 hedge
funds in the CISDM database. By calculating CAPM alphas, they found that the
average alpha of all funds is significantly positive. Few funds show significant
negative alphas. The majority of funds show significant positive betas. The beta
measure was used to measure the effect that the individual fund will have in the
portfolio of funds. By using the Ferson and Schadt conditional model, they found that
the mean alpha is slightly lower than for CAPM and only marginally significant. By
using Leland, (1999) model, they found that the mean alpha is positive. It is lower
than that compared with the CAPM and higher than the time-adjusted model. In
addition, they found that on average large funds outperform small funds. By checking
what fund age has on performance, they found that the mean alpha of new funds
exceeds the mean alpha for older funds. By testing the impact of fees on
performance, they concluded that the mean alpha for high incentive funds exceeds the
mean alpha for low incentive funds. Different methodologies generated different
results for alphas and the mixed picture create difficulty whether there is performance
persistence across different hedge funds categories.

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Agarwal and Naik, (2000), tested for hedge funds performance persistence using a
multi- period framework by calculating the observed frequency distribution of wins
and losses and comparing it against a theoretical distribution by formulating the
hypothesis of no persistence. The database that they have used is Hedge Fund
Research, (HFR) and the period examined is from January 1982 to December 1998.
The database provides information for both alive and “dead” funds. Survivorship bias
is eliminated in the Hedge Fund Research database. They compared this model with
the two- period framework using parametric and non-parametric tests. Non-parametric
test that was used is the contingency table of winners and losers. A fund is a winner if
the alpha is greater than the median alpha of all the funds following the same strategy.
Otherwise, the hedge fund is classified as a loser. Using a multi-period framework,
they found that performance returns are significantly less than that documented in the
traditional two-period framework. There was no yearly returns persistence even at the
10% significance level. They used quarterly, half-year and yearly returns. They
investigated persistence by using the pre and post fees returns. They used two
performance measures, namely, the alpha and the appraisal ratio. The alpha measure
was calculated as the return of a fund using a particular strategy minus the average
return for all funds following the same strategy. The appraisal ratio was calculated as
the alpha divided by the residual standard deviation. They found quarterly short-term
performance persistence among hedge funds. Due to the long lockup period, investors
cannot take advantage even if there is short-term performance persistence.
Performance persistence decreases when observed at yearly horizon and is not
affected by the way the fees are calculated. Persistence in the results of the multi-
period framework is significantly lower than the two-period framework. They found
no persistence at yearly basis using the multi-period framework. In addition,
persistence is not related whether the funds follow directional or non-directional
strategy.

Agarwal, Daniel, Naik, (2009), used four databases to test for performance
persistence. The databases are CISDM, HFR, MSCI, and TASS. The data provided by
this database are net-of-fee returns, assets under management, AUM, hurdle rate
high-water mark provisions, lockup, notice, redemption periods, incentive fees,
management fees, inception date, and fund strategy. The period of data investigation
was from January 1994 to December 2002. They used four databases and included
alive and defunct fund to avoid survivorship bias. They tested for evidence of
performance persistence due to managerial incentives and discretion. Higher delta
option used as a proxy for managerial incentives is associated with higher future
returns even when the incentive fees that are charged are 20%. High-water mark
provision improves performance by 21%. Higher incentives are associated with
performance. They found that hedge funds with high managerial incentives,
managerial ownership, and high-water mark provision are related with significant
positive performance. In addition, they found that funds with significant degree of
managerial discretion, identified by long lockup, notice, and redemption periods are
related with significant positive performance. Incentive fees have not any effect on
future returns.

Agarwal, and Naik,(1999), used hedge Fund Research, (HFR), database to test for

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fund characteristics, performance persistence, risk exposures and style analysis. The
database is free from survivorship bias. They calculated performance measures for
funds that follow directional and non-directional strategy. The period used was from
January 1994 to September 1998. They found that from 1994 to 1998, the non-
directional perform better than the directional strategies based on risk return
characteristics. They found that the standard deviation of directional strategies is 4.2%
per month while the standard deviation of non-directional strategies is 1.7% per
month. The non-directional strategies showed a higher Sharpe ratio than the
directional strategies. They did a mean variance analysis among hedge funds. They
found a significant risk return results than passive investment. They performed a
multi-factor model and found that hedge fund strategies outperform the benchmark
index by 6% to 15% per year. Alphas are positive and significant which reflect the
skill of the manager in terms of stock selection and market timing ability. All hedge
fund strategies gain a return of 0.53% to 1.25% per month. In addition, they used a
combination of parametric and non-parametric tests to test for performance
persistence. They used regression and contingency tables to test for alphas and
appraisal ratios among winners and losers. A positive significant coefficient of alpha
or appraisal ratios in two consecutive quarters identify that the manager is skillful
towards performance persistence. Moreover, they used contingency tables and they
classified as winners the fund that alpha is greater than the median alpha of the funds
in the quarter. Winners are classified funds that persist in two consecutive quarters. In
contrast, it is a loser. They found of persistence among losers to continue to be losers
in two consecutive periods measured by alphas and appraisal ratios.

Agarwal, and Naik, (2004), investigated six equity hedge funds strategies such as
event arbitrage, restructuring, event driven, relative value arbitrage, convertible
arbitrage and long/short equity. They used the Hedge Fund Research, (HFR) database
and the CSFB/Tremont indexes. The data used consisted of monthly returns from
January 1990 to June 2000 for the HFR indexes and from January 1994 to June 2000
for the CSFB/Tremont indexes. They used for the risk and return analysis at the
money and out of money European call and put options that are traded on the S&P
500 index. They tested for long-term performance by regressing hedge fund index
return on size, market, value, momentum and options. They found that long-term
returns are smaller and long-term volatilities are higher. Hedge funds returns for the
current period are better than the long-term performance.

Ammann, Huber, Schmid,(2010), examined hedge fund performance persistence from

the period 6 to 36 months. The database that they have used was the Lipper/TASS and
CISDM databases from 1994 to 2008. The database included both alive and “dead”
funds to avoid survivorship and backfill bias. The methodology that they have used
was a panel probit regression. They wanted to test the effect of fund characteristics on
performance persistence. They investigated for performance persistence by using two-
way sorted portfolios based on performance and fund characteristics. The fund
characteristics that they included in their analysis is fund size, fund age, relative fund
flows, a dummy variable whether the fund is closed to new investments, the length of
the notice and the length of the redemption period, management and incentive fees,
leverage, and a dummy variable for whether the fund management is personally
invested in the fund. In addition, they used a ’Strategy Distinctiveness Index’ (SDI) as
proposed by Wang and Zheng (2008). The results from the probit regression indicate
that all the fund characteristics are significantly related to observing performance

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persistence. Although, only the SDI show the ability to systematically improve
performance persistence over time period up to two years. The alphas were calculated
as follows. The first alpha is based on a stepwise regression approach. The second
alpha is based on the seven-factor model proposed by Fung and Hsieh (2004).
Estimation of alpha was based on rolling-24 months window regressions. Funds were
classified as winners or losers according to the above or below median alpha value.
The time periods that were used were 6 months, 1, 2 and 3 years. They found alpha
persistence for the period up to three years. They found significant performance
persistence for the period of up to 36 months. In addition, they concluded that
manager skill and the strategy of hedge fund improve performance persistence for the
period of up to 24 months. The alpha is increased by approximately 4.0% and and
2.3% p.a.

Baquero, Horst and Verbeek, (2005), tested for hedge fund performance over the
period 1994 to 2000 using a weighted model by taking into consideration look-ahead,
and survival bias. Look-ahead bias can be a bigger than 3.8%, depending upon the
decile of the distribution. Look-ahead bias is very evident over a period of one year.
Liquidation is followed by poor performance. In contrast, factors that contribute in
the survival rate are fund age, net asset value, investment style and the incentive fee.
The database that they have used is TASS management limited. Firstly, they tested for
performance persistence using raw returns. They investigated whether winners
continue to be winners in two consecutive periods of the top deciles. They formed
contingency tables of quarterly period of time. In each quarter all funds are ranked in
ten deciles. There are also incorporated in the data, new and liquidated funds to avoid
look-ahead bias. The probability of showing top performance in the next quarter is
20% of decile 10 and the probability of appearing in the losing decile 1 is 17%. The
funds that showed bad performance in the ranking period of decile 1 have a much
higher probability of 24% to be loser again and a probability of 4% of liquidation.
Moreover, they ranked the funds based on past average returns over the previous
quarter, the previous year or the previous two years. By using quarterly data they
found positive persistence in hedge fund returns investment style. In addition, they
found weak significance of positive performance persistence measured yearly.

Boyson,(2003), investigated performance persistence among hedge funds. The

database that was used is the Tremont Advisory Shareholders Services (TASS). The
database contains information on monthly net-of-fee returns, as well as expenses,
fees, size, terms, age, and style of the funds. The database has over 2,400 funds both
alive and “dead”. She tested for quarterly, semi-annual and annual performance
persistence. She tested for funds that have at least 5 million in assets during the period
January 1994 to December 2000. Quarterly persistence tests were performed on 1,659
funds with at least 6 months of returns. Semi-annual persistence tests were done on
1,503 funds, and the final sample consisted of 982 funds. She performed a multi-
factor model to test which factors create performance persistence using a set of
different indices. She found persistence at quarterly horizons and no persistence on
funds based only on past performance. Tenure manager and style are an important
factor that could create performance persistence. She found that the excess
performance is statistically significant and about 9% per year. She constructed a
portfolio that takes a long position in low tenure namely past good performers and a
short position in high tenure namely past poor performers to test for performance
persistence. Young mangers are more likely to be terminated due to poor performance

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and risk taking exposure.

Boyson,(2008), examined whether performance persistence exist due to fund

characteristics such as size and age. The sample size that was investigated was from
the period 1994 to 2004. The database that was used is the Credit Suisse/Tremont
Advisory Shareholder Services (TASS). The database has more than 3,000 funds both
alive and “dead” to avoid survivorship and backfill bias. The TASS database includes
monthly net-of-fee returns, expenses, fees, size, age, and style of the funds. As funds
become larger and older in terms of age, then, the likelihood of persistence is reduced.
She found that persistence is evident among small and young funds. Small and young
funds with prior good performance outperformed large and mature funds with poor
performance by 9.6 percent per year. Young funds with significant performance get
high capital inflows. As the time passes, high capital inflows reduce performance
persistence. She constructed quintile portfolios of hedge funds based on historic
performance returns and terciles based on funds characteristics. She included funds of
funds and single strategy funds in her analysis. She used for her analysis the
information ratio to measure past performance of the 36-month t-statistic alpha.
Persistence tests were done for one and two-year period based on the alphas
calculated over the past 36 months. She calculated alphas based on Fung and Hsieh’s
(2004) seven-factor model over the past three years. In addition, she classified funds
into portfolios based on historic t-statistics alphas. Subperiod tests were used over the
period January 1994–September 1998, October 1998–March 2000, April 2000–
December 2002, and January 2003–December 2004. A statistically significant
difference between the best quintile 5 and the worst quintile 1 portfolios is sample
evidence of performance persistence. She found significant performance persistence
for the one and two-year evaluation periods. The one-year evaluation period showed a
statistically significant alpha spread of 37 bps per month. Young funds with historic
positive performance outperform old funds with historic positive performance by 10
bps per month. Age and size are highly correlated and are the reason for performance
persistence especially for young and small funds.

Capocci, Corhay, and Hubner,(2005), used data from the Managed Account Reports,
(MAR), database from the period 1994 to 2002. They examined the performance of
108 monthly net-of- fee returns on 2894 individual hedge funds plus 48 indices in bull
and bear markets. To avoid survivorship bias, they included 1622 alive funds and
1272 “dead” funds. They used a ten-factor performance model. They used a
combination of multi-factor model such as Carhart's (1997) four-factor model, the
model used by Agarwal and Naik (2004) and the one used by Capocci and Hiibner
(2004). They found that most hedge funds significantly outperformed the market
during the examined bullish period. However, there was no significant
underperformance of hedge funds in bearish market. In the second subperiod,
negative persistence was found among the past losers. The market neutral strategy
shows significant persistence that can be found between the 20% and 69% best
performers in this category in both the bullish and bearish period. Superior
performance was found before March 2000.

Do, Faff and Veeraraghavan, (2010), examined performance persistence returns by

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using the LCA Australian database over the period July 2000 to June 2005. The data
consisted of 163 hedge funds for the period January 1998 to June 2005. They divided
the data into three groups. The first group includes 77 funds with 36 months of
returns, from July 2002 to June 2005. The second group includes 45 funds with 48
months of returns, from July 2001 to June 2005. Finally, the third group includes 28
funds with 60 months of returns, from July 2000 to June 2005. They tested
performance persistence by using parametric and non-parametric methodology. By
using non-parametric test, they constructed contingency tables of winners and losers
to find out the winning or loosing funds for two consecutive periods. They calculated
the cross product ratio, (CPR), the chi-squared statistic, and the percentage of
repeating winners, (PRW). They used alphas from the three-factor model of Fama and
French to find out winners and losers. Funds with positive alphas are identified as
winners and funds with negative alphas are identified as losers. Based on Treynor and
Mazuy (1966) regression model, they tested for market timing and share selection
ability by taking into consideration the size, book-to-market and momentum. They did
a multi-period performance persistence test by comparing the observed number of
consecutive winners and losers to the expected value. They conducted statistical
significance using the Kolmogorov–Smirnov (K–S) test. The parametric test shows
weak evidence of performance persistence. Persistence is shown in the losers, namely
funds that underperform the index repeat themselves. They found evidence of short-
term performance persistence and no evidence for long-term winning persistence
returns. In addition, they have used multi-period performance persistence and found
weak evidence of loosing persistence performance. They did not find persistence by
testing the hedge fund manager share picking ability or market timing. In contrast,
they found mean reversion for share picking and market timing at the medium period
of time. They found weak evidence of stock selecting ability persistence in the
medium term and no evidence of stock picking persistence in the long term.

Getmansky, (2004), tested the life cycles of hedge funds. She used the TASS database
supplied by the Tremont Company. She tested how net flows into individual funds are
affected by historic performance, recent performance, historic flows, age, past
standard deviation of returns, category fund, and past assets. Increase by 10% in a
current return increases fund flow by 2%. Hedge funds that use directional strategies
are directly affected by past returns. In contrast, market neutral and event driven
hedge funds are less affected by past returns. The association of current returns and
current flows is positive and significant with a coefficient of 0.234. Historic flows
positively affect current flows with a coefficient of 0.048. However, historic size and
age negatively affect the future flows with coefficients of -0.041 and -0.001. The
historic standard deviation of returns negatively influence quarterly flows with a
coefficient of -0.002. The annual attrition rate averaged 7.10% between 1994-2002.
She focused on the industry and fund specific factors that affect the survival
probability of hedge funds. She found that hedge funds liquidate decrease as the
investor’s focus on the individual performance return. In contrast, if investors focused
on a category of hedge funds that performed well, then, the probability of liquidation
due to competition increases. In addition, she found a concave relationship between
performance and assets under management. Optimal asset size can be found by
examining past returns, fund flows, market impact, competition and favorable
category positioning.

Gibson, and Gyger, (2004), examined hedge fund performance persistence over

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different time periods. The relative value and the specialist credit strategy hedge funds
showed outperformance. They used a non-parametric test. They ranked funds based
on their historic returns. The whole sample period that they have used is from January
1992 to December 2000. They found short-term performance persistence among
hedge funds from one to three months. There is no persistence over a longer period of
time.

Guirguis,(2005), examined the major building blocks that affect the performance of
hedge funds: incentive fees, management fees, size, age, hurdle rate, high watermark
provision and lockup period. The sample is provided from Data Feeder dataset. It is
very comprehensive and includes 680 funds for the period 1998 to 2003. According to
my findings the results are mixed. Management fees and age affect significantly the
performance of Hedge Funds. My findings suggest that there are other factors that
could contribute to this deviation such as lock-up periods, hurdle rate and high water
mark. Dummy variables applied on the probit binary regression equation suggest that
these three factors constitute a significant explanation of the performance persistence.
All style categories display an that is positive and statistically significant at the 5%
significance level. Two out of five style categories display management fee variable
that is positive and statistically significant. Three out of five display the age variable
as positive and statistically significant. The watermark provision binary variable for
the diversified style category is significant as the test statistic for 6 degree of freedom
is greater than the critical value of 12.59. The third category, which is market
defensive style category, shows a significant p-value for watermark provision.
Finally, strategic style category shows a significant p-value for hurdle rate of 0.04.
Thus, dummy variables applied on the probit binary regression suggest a significant
explanation of performance persistence of hedge funds.

Joenvaara, Kauppila, Kosowski, and Tolonen,(2019), used a merged and aggregate

database from a set of seven databases to test performance returns among hedge
funds. The sample investigated was from 1994 to 2016. The databases that were used
are BarclayHedge, EurekaHedge, Hedge Fund Research (HFR), Lipper TASS,
Morningstar, eVestment and Preqin. The reason of using an aggregate database is that
the average return in individual databases is significantly higher than in the aggregate
database, by 0.58% to 1.25% per year. They found that the average alpha before fees
is positive and significant, and ranges from 3.11% to 4.50% per year. Small funds
create performance persistence. Quintile portfolios were used and ranked based on
past performance returns. Performance persistence disappears when using value
weighted alphas returns. Average performance is lower but persistent when using the
aggregate database. The average fund did not show significant risk-adjusted net-of-fee
returns while the gross-of-fee returns remain significantly positive. They found a
significant association between share restrictions, compensation structure and risk
adjusted returns. Share restrictions consist of lockup, redemption, and notice periods.
The coefficient on notice period is highly significant, while the coefficients on
redemption and lockup periods are insignificant.

Jagannathan, Malakhov, Novikov,(2010), examined hedge fund performance

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persistence by using style characteristics. The database that they have used is Hedge
Fund Research, (HFR), and is free from backfill and survivorship bias. The data used
are free from serial correlation and look-ahead biases. They used monthly returns
from May 1996 to April 2005. They found performance persistence among superior
funds and little persistence among inferior funds. They formed portfolios of hedge
funds based on their historical alpha, and examined their out-of-sample performance
using the multifactor model of Fung and Hsieh (2004). They calculated and compared
the alphas over consecutive three-year intervals by taking into consideration the
lockup, notice and redemption periods. They used a weighted least squares method in
order to minimize the persistence bias of measurement error of alphas and generalized
method of moments, GMM, method. They calculated alphas in the evaluation period
and, then, they calculated alphas in the estimation period. Then, they compared past
and future alphas for persistence. They used regression analysis for the upper and
lower terciles in relation to their alpha t-statistics. They found long-term performance
persistence. They found three- year alpha persistence and is due to manager skill. The
average alpha persistence is 28% by using the least squares method. They did out-of-
sample portfolio assessment based on past alpha and alpha rankings, and found
evidence of performance persistence among the well performing hedge funds. In
contrast, they did not find performance persistence among the bottom funds.

Joaquim and Moura, (2011), investigated the performance persistence of the Brazilian
hedge funds using daily data from September 2007 to February 2011. The data was
obtained from the Anbima database. The total number of funds studied was 859 daily
observations. This period was well known as the worst financial crisis. They
investigated whether management fees, performance fees and different strategies
create performance persistence. Performance was measured using aggregate returns,
the Sharpe ratio and Jensen’s alpha. Moreover, they used contingency tables namely
the cross product ratio and chi-square test for two periods, Spearman’s rank
correlation coefficient and a simple regression model. The ranking method of
Spearman is used among hedge funds and positive and significant ranking was an
evidence of persistence. The contingency tables were formed based on winners and
losers in two consecutive periods. The funds above the median are classified as
winners and the funds below the median are known as losers. They found that the
parametric tests showed more evidence of performance persistence than the non-
parametric tests. They found short-term performance persistence of one to three
months among a group of funds with abnormal returns. Positive and statistically
significant alphas were apparent among a group of funds. By prolonging the period
from one to six months the individual performance persistence is reduced. Individual
funds evaluation showed a reduced persistence.

Kat and Menexe,(2002), examined hedge fund performance persistence among hedge
funds. They tested the performance persistence of 260 hedge funds and 78 funds of
funds. They calculated the mean, standard deviation, skewness, kurtosis and
correlations with shares and bonds over the period June 1994 to November 1997 and
December 1997 to May 2001. They used monthly net of fee hedge funds returns from
the Tremont, TASS database. They used different categories of hedge funds such as
long/ short equity, event driven, convertible arbitrage, global macro, emerging
markets, relative value, fixed income directional and funds of funds. They selected as
proxy index for shares the S&P 500 index. Moreover, they selected the Salomon
Brothers 7 year government bond index as proxy for bonds. They used non-

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parametric tests, namely contingency tables for winners and losers and parametric
tests namely regression model. A fund is known as winner if the return value is
greater than the median value for all funds in the same category. In contrast, a fund is
a loser. They compared high or low returns over two consecutive periods. They used
the cross-product ratio,(CPR). They found through contingency tables persistence in
the standard deviations. The CPR is very high and significant. They did not find
persistence in skewness and kurtosis as they have used a small sample. Checking for
correlation between the CPR and shares index they found strong and significant
persistence for most categories In contrast, when the CPR is compared with the bond
index, they found low or no persistence. The highest persistence is found in the
long/short equity and the lowest in event driven category. On the other hand, they
performed 48 regressions. Funds of funds and emerging markets categories showed
significant performance persistence in the mean returns. In addition, most categories
showed significant R squared and persistence in their standard deviation by using the
parametric tests. They found kurtosis persistence in funds of funds and convertible
arbitrage. They found little evidence of performance mean returns but strong
persistence in funds standard deviations and their correlation with the index market.

Lin, (2016), tested for hedge funds survival probability models by taking into
consideration variables such as minimum investment, investment strategy, leverage,
fund asset, management fee, incentive fee, high watermark, redemptions, lockup
period, diversity firm, SEC registration, performance, and advance notice after the
2008 financial crisis. Lin wanted to find if there is correlation and to what extent of
the above mentioned variables with the hedge funds survival rates. Survival
probability models will help the investors to choose among the best model. Lin used
the Hedge Fund Research, (HFR) database that includes US hedge funds. The
research included live and dead funds to avoid or reduce survivorship bias. The
research period that was examined was the pre-crisis from September 2002 to October
2007, and post –crisis from March 2009 to April 2014. The total number of funds was
5390 for the first period and 4621 for the second period. Lin used a standard logistic
regression. The results from the pre-crisis showed that lockup period, high water
mark, event-driven strategy, and relative value strategy are not statistically significant.
The results form the post-crisis showed that high management fee and incentive fee
are negatively correlated with the survival probability model. SEC registration, and
good historical performance are positively correlated with the survival probability
model. High incentive fee has resulted to low survival probability in both periods. In
both periods historic performance has strong correlation with the survival probability
model. Poor performance is affecting positive persistence and the fund become
“dead”. In the pre-crisis period, leverage has high survival probability. In contrast, in
the post-crisis period, leverage has the opposite effect. Low management fee is
correlated with high survival probability rate during the post-crisis period.

10

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Koh, Koh, Teo, (2003), used monthly data from the period January 1999 to March
2003. Their study was based on Asian hedge funds by including both alive and “dead”
funds to avoid survivorship bias. Their purpose was to study return persistence, styles
and fund characteristics. The database used is Asia Hedge and Eureka Hedge. The
database included information regarding the fund size, inception date, management
fee, performance fee, redemption period and minimum investment. They have used
two-period and multi-period performance persistence tests to find out to what extent
winners and losers persist. Contingency tables were used to determine winners and
losers in two consecutive periods. They found persistence of winners and losers from
one to nine months. The cross product ratio and the Chi-squared statistic are
significant at the 1% significance level. In addition, they have used the Kolmogorov-
Smirnov test to compare the observed with the normal distribution. They have found
short-term performance persistence. They found persistence at monthly and quarterly
basis. The persistence becomes less significant beyond the quarterly basis. Lack of
persistence is not due to the fees or to the systematic risk that the managers are taking
measured by a factor model. They performed a principal component analysis.
Components that explain the variations in returns are commodity trading advisors,
CTA, component, two macro components, and three multi-strategy components. The
total variation that is explained by the components and achieves better diversification
is 64%. They found a positive relationship between fund size and returns. Funds with
higher lockup period achieve on average higher returns. Finally, funds with higher
expenses do not achieve higher returns.

Kosowski, Naik, Teo,(2007), evaluated the performance of hedge funds using

monthly net-of-fee returns of live and “dead” hedge funds of the TASS, HFR,
CISDM, and MSCI databases over the period January 1990 to December 2002. The
total number of funds was 4,300 live funds and 1,233 “dead” funds. They found that
hedge funds show performance persistence at annual basis. They used Bayesian
measures and found superior performance predictability. Using Bayesian alphas
instead of ordinary least squares, (OLS) alpha, they found a 5.5% increase in alpha
each year of the spread between the top and bottom hedge funds deciles. The alpha of
the top decile portfolio from the Bayesian alpha is 8.21% per annum and 2.89% per
year higher than that from the OLS alpha. The OLS alpha overestimates the
performance of the top funds and underestimates the performance of the bottom
funds. They measured performance persistence by using a non-parametric bootstrap
approach. They follow the same bootstrap and Bayesian methodologies used by
Kosowski, Timmermann, Wermers and White (2005) and Busse and Irvine, (2005).
Funds selected based on their alpha t-statistic over the past two years persist more
than funds selected based on their alpha over the same period. Bayesian estimates
improve hedge funds predictability returns. Their methodology has not serial
correlation survivorship or backfill bias and incubation. By taking into consideration
systematic risk factors, they found that the managerial skill creates return persistence
and cannot be explained due to luck. To sum up, by using Bayesian methods they
found long –term performance persistence over a one-year horizon.

Metzger and Shenai, (2019), investigated the Hedge Index database which includes
over 9500 hedge funds during and after the financial crisis over the period June 2007-

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January 2017. Credit Suisse sponsors the database. Ten strategies are defined by
Hedge Index database. The strategies are Convertible Arbitrage, Emerging Markets,
Equity Market Neutral, Event Driven, Fixed Income Arbitrage, Global Macro,
Long/Short Equity, Managed Futures, Multi Strategy and Short Biased. Survivorship
was limited by including both alive and “dead” funds. All expenses and fees are
included in return calculations and they have used monthly returns. The null
hypothesis of a unit root in the return series was rejected at the 1% level. They found
negative skewness and leptokurtosis for nine of the eleven series tested. Performance
of the different strategies was examined using correlations, the Carhart’s four factor
model, performance persistence, and reward-risk ratios. Performance tests were
conducted over a three-month rolling window. Total performance in relation to
reward-risk ratios, the 
Sharpe ratio, Upside Potential ratio (UPR), and Sortino ratios
were computed for the different strategies. The results were ranked and tested in
comparison with actual performance. A non-parametric test was used. Performance
was analyzed in different time periods. Several hedge fund strategies show
performance persistence and have outperformed the S&P 500 index. From June 2007
to January 2017, seven strategies performed better than the S&P500: Global Macro,
Multi Strategy, Emerging Markets, Long/Short Equity, Event Driven, Convertible
Arbitrage, and Fixed Income Arbitrage. In contrast, Short Bias, Equity Market
Neutral and Managed Futures did not perform well in comparison with the index S&P
500. During the crisis period, June 2007 to March 2009, the S&P 500 was the worst
performer. The best performers were Managed Futures, Global Macro and Short Bias.
Carhart’s model showed that no strategy has recorded a significant alpha during the
financial crisis. The period after the crisis namely April 2009–January 2017, the worst
performer was Short Bias while the S&P 500 was the best performer. Multi Strategy,
Convertible Arbitrage and Fixed Income Arbitrage were among the best performer.
The highest mean return was achieved by Global Macro (0.44%) and Multi Strategy
(0.39%). During after-crisis period, Fixed Income Arbitrage has the highest Sharpe
ratio, while Convertible Arbitrage has the highest Upside Potential and Sortino ratios.
During the examined period, the Sortino ratio ranking showed a significant
relationship in performances measures.

Schmid and Manser,(2009), investigated the performance persistence of raw and risk
adjusted returns for equity long/short hedge funds using the methodology of
Hendricks, Patel, and Zeckhauser (1993). They used the CISDM database, which is
consisted from both alive and “dead” funds to avoid survivorship and backfill bias.
The total number of funds used was 1,649 funds from January 1994 to December
2005. The CISDM database includes monthly net-of-fees returns, assets under
management, AUM, fund characteristics such as lockup period and inception date.
They constructed contingency tables to test for the hypothesis of consecutive winners
or losers over two periods. They found limited evidence of performance persistence in
raw returns. Funds that did well in the previous year based on their alphas continued
to outperform but not significantly in the subsequent year. They formed portfolios
based on deciles and subdivided into terciles based on specific characteristics of
hedge funds. They extended Carhart’s four-factor model by including Agarwal and
Naik's (2004) out- of-the-money call and out-of-the-money put option. Fund
performance alpha disappear after one year. Factor models are able to explain the
persistence among hedge funds. They did not found persistence after one year. In
contrast, there is persistence beyond one year for funds that showed bad performance.
They found performance persistence by using the Sharpe ratio. Funds with significant

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risk adjusted returns show high raw returns and lower volatility.

Sun, Wang, and Zheng, (2018), used the Lipper TASS database to test for
performance persistence among hedge funds. They found hedge fund persistence over
weak markets but no persistence over strong markets. They constructed two
performance measures RET_DOWN and RET_UP according to hedge funds returns.
They found that funds in the highest RET_DOWN quintile outperform funds in the
lowest quintile by approximately 7% in the consecutive year. The RET_DOWN
performance measure can be used as a predictor of future fund performance over a
period of 3 years. They tested for time varying predictability among hedge funds
returns. Their performance methodology included the Fung–Hsieh, (2001), seven-
factor alpha, the appraisal ratio, and the Sharpe ratio. They found that funds with
better RET_DOWN significantly outperform their peers in all performance measures
over the next 3 months to 3 years. In contrast, funds with better RET_UP do not
outperform. They found that winners in down market repeat themselves.

Titman and Tiu (2008), used six different databases during the period January 1994 to
December 2005. The sample was free of survivorship and backfill bias. They found
that funds with low R -squares have high Sharpe ratios, alphas and higher returns.
Funds with low R – squares quartile produce better results on average than funds with
high R-squares quartile. Larger funds showed improved Sharpe ratios but not better
raw returns. Funds with more than a year lockup period show future outperformance.
They found performance persistence among hedge funds in Sharpe ratios over one-
year horizons.

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