Funds of Hedge Funds versus Portfolios of Hedge Funds - A Comparative Analysis

Using a comprehensive database made up of 2247 individual hedge funds (among which 1346 follow a directional strategy and 877 a non-directional one) and 647 funds of hedge funds for the period January 1994 - December 2002, we investigate whether portfolios of individual hedge funds can outperform existing funds of hedge funds. For this purpose, we have built portfolios using Carhart (1997) deciles classification. In regressing each of our individual hedge funds decile portfolios, first against the funds of hedge funds Global Index, then against each funds of hedge funds decile, and finally against each individual funds of hedge funds present in our database, we find that the best individual and directional hedge funds deciles are those of the middle, indicating that neither a momentum nor a contrarian strategy seems appropriate in portfolio construction in order to beat existing funds of hedge funds. However, it emerges that our non-directional hedge funds deciles consistently and significantly beat existing funds of hedge funds.