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Hedge Fund Tracking Template

Feb 1, 2013 Marc Odo

For those who want a deeper-dive into hedge funds, specifically for those who want to know more about the style of a hedge fund, we have developed two additional templates for your use. The first template compares a hedge fund’s returns against different, single benchmarks, a number of times over. The intent of the first template is to determine whether or not the hedge fund typically tracks any of the traditional asset classes or any of the hedge fund style indices. The second template compares a hedge fund’s returns in a multi-benchmark/multi-factor model, more commonly known as returns-based style analysis (“RBSA”). Its purpose is to determine the underlying style exposures of a hedge fund and will be discussed in further detail in a follow-up ZephyrCOVE post.

Hedge funds are notoriously tricky to analyze, due to the lack of investable, passive indices and the diverse number of styles and strategies a hedge fund can employ. For the purposes of performance analysis, Zephyr recommends focusing upon those statistics that measure capital preservation, tail risk, and the consistency of wealth creation. The pain indexpain ratioOmega, and Zephyr K-ratio are all well-suited for the measurement of hedge fund performance and we have a template available built around these.

Yet it still might make sense to ask yourself, “does it even make sense to invest in this hedge fund in the first place? Are the returns this hedge fund offering significantly different than what I can get in the traditional asset classes?” The first several tabs of the template called “HFR R2 Template” seek to answer that question. They compare the returns, correlations, and R2s of a hedge fund against eight different traditional asset classes. If the returns are too similar to any of the traditional asset classes, it might not make sense to invest in that hedge fund. If the returns are different enough, then the hedge fund might offer diversification benefits.

The remaining set of tabs compares the hedge fund against many of the different HFR hedge fund style indices. HFR does a very good job creating a logical hierarchy of the hedge fund world and their indices reflect this. The intent of the HFR tabs is to see if the hedge fund being analyzed tracks any of the off-the-shelf indices or not. If the hedge fund does track the index well, then the analyst can use the HFR index as a proxy for risk modeling, asset allocation, and as a reference point for the calculation of benchmark-relative statistics like alpha and information ratio. If the hedge fund does not track any of the HFR indices well, it can be thought of as unique and truly unsystematic.

We hope this template helps you in your analysis of hedge funds. For those who want to explore hedge fund style analysis, we have a template called “HFR Style Template” that is discussed in a separate ZephyrCOVE post. We also have a case study paper that discusses these templates in detail.

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