Hedge Funds: Risk and Return

Constructing a data base that is relatively free of bias, this paper provides measures of the returns of hedge fund s as well as the distinctly non-normal characteristics of the data. We provide risk-adjusted measures of performance as well as tests of the degree to which hedge funds live up to their claim of market neutrality. We also examine the substantial attrition of hedge funds and analyze the determinants of hedge fund survival as well as perform tests of return persistence. Finally, we examine the claims of the managers of funds of funds that they can form portfolios of the best hedge funds and that such funds provide useful instruments for individual investors. We conclude that hedge funds are far riskier and provide much lower returns than is commonly supposed.