Equity Market Neutral Scholarly Articles

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Equity Market Neutral Related Scholarly Compositions

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Are “Market Neutral” Hedge Funds Really Market Neutral?
by Andrew J. Patton
London School of Economics
October 5, 2005

Abstract
Using a variety of different definitions of “neutrality”, we find significant evidence against the neutrality to market risk of hedge funds in a range of style categories, including the “market neutral” category. We suggest that the market neutrality of hedge funds has a “breadth” and a “depth” component: breadth reflects the number of market risks to which a fund is neutral, while depth reflects the “completeness” of the neutrality of the fund to market risks. We focus on neutrality depth, and propose five different neutrality concepts. “Mean neutrality” nests the standard correlation-based definition of neutrality. “Variance neutrality” and “tail neutrality” relate to the neutrality of the risk of the hedge fund to market risks. Finally, “complete neutrality” corresponds to independence of the fund to market risks. We suggest statistical tests for each neutrality concept, and apply the tests to a combined database of monthly returns on 1,619 hedge funds from five fund styles categories. For the so-called “market neutral” style we find that around one-quarter of funds exhibit some significant exposure to market risk; this proportion is statistically significantly different from zero, but less than the proportion of significant exposures for other hedge fund styles.

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Diversifying Market Risk through Market-Neutral Strategies
by Marco A. Navone
Financial Markets & Institutions Department - Bocconi University
September 19, 2001

Abstract
Usually hedge funds are linked to concepts such "superior selection ability" and "abnormal returns" (subject to abnormal risks). Recent literature has pointed out that seldom hedge funds achieve performances significantly higher than broad capitalization market indices or mutual funds, and that basically hedge funds are just a different way to rule the agency relation between investors and the investment manager. From this consideration follows that one of the most important features of hedge funds is the manager's ability to take both long and short positions on the markets...

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A Market Neutral Statistical Arbitrage Trading Model
by Erik Larsson, Lars Larsson, & Johan Aberg
March 13, 2003

Abstract
The momentum effect is a systematic inefficiency in the market that can be exploited by a trading strategy. This conclusion is supported by theoretical and empirical evidence. But the academic research that tries to quantify the performance of this kind of strategy often relies on a methodology that is too simplistic...

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Neutrality of Market Neutral Funds
by Daniel Capocci
June, 2005

Abstract
Using an original database of 634 market neutral hedge funds, this study formally
analyses the market neutrality of market neutral funds which are particular in the hedge fund universe since the only objective of these funds is to provide positive returns completely independent of the market conditions. We start by analysing this neutrality using various market neutral indices before focusing on individual fund returns. Finally, an analysis based on ex-post beta helps us explaining and confirming our previous results...

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Portfolio Optimization and Hedge Fund Style Allocation Decisions
by N. Amenc & L. Martellini
USC Marshall School of Business - Department of Finance and Business Economics
March 2002

Abstract
This paper attempts to evaluate the out-of-sample performance of an improved estimator of the covariance structure of hedge fund index returns, focusing on its use for optimal portfolio selection. Using data from CSFB-Tremont hedge fund indices, we find that ex-post volatility of minimum variance portfolios generated using implicit factor based estimation techniques is between 1.5 and 6 times lower than that of a value-weighted benchmark, such differences being both economically and statistically significant. This strongly indicates that optimal inclusion of hedge funds in an investor portfolio can potentially generate a dramatic decrease in the portfolio volatility on an out-of-sample basis. Differences in mean returns, on the other hand, are not statistically significant, suggesting that the improvement in terms of risk control does not necessarily come at the cost of lower expected returns.

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The Statistical Properties of Hedge Fund Index Returns and their Implications for Investors
by Chris Brooks & Harry M. Kat
ISMA Centre
November 10, 2001

Abstract
The monthly return distributions of many hedge fund indices exhibit highly unusual skewness and kurtosis properties as well as first-order serial correlation. This has important consequences for investors. We demonstrate that although hedge fund indices are highly attractive in mean-variance terms, this is much less the case when skewness, kurtosis, and autocorrelation are taken into account. Sharpe Ratios will substantially overestimate the true risk-return performance of (portfolios containing) hedge funds. Similarly, mean-variance portfolio analysis will over-allocate to hedge funds and overestimate the attainable benefits from including hedge funds in an investment portfolio. We also find substantial differences between indices that aim to cover the same type of strategy. Investors' perceptions of hedge fund performance and value added will therefore strongly depend on the indices used.

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Tactical Asset Allocation on Market Neutral Hedge Fund
by Juan Ledesma Padilla, & Martin Zebad
University of Lausanne - School of Economics and Business Administration
October, 2004

Abstract
The objective of the thesis is to show through an empirical work how alpha drivers can be used tactically with beta drivers to provide solid out-performance compared to a chosen benchmark. Given the fact that financial theory and empirical research cast doubt on the alpha generating process based on stock-picking abilities by Fund Manager, I substitute that methodology with a quantitative approach. Using a robust econometric process based on a non-linear multi-factor thick and recursive modeling approach that takes into account structural breaks in the data generating process, I found statistically and economically significant evidence of returns predictability for the DJ Euro Stoxx 50 excess returns...

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HEDGE FUND RISK AND OTHER DISCLOSURES

Hedge funds, including fund of funds (“Hedge Funds”), are unregistered private investment partnerships, funds or pools that may invest and trade in many different markets, strategies and instruments (including securities, non-securities and derivatives) and are NOT subject to the same regulatory requirements as mutual funds, including mutual fund requirements to provide certain periodic and standardized pricing and valuation information to investors. There are substantial risks in investing in Hedge Funds. Persons interested in investing in Hedge Funds should carefully note the following:

Hedge Funds represent speculative investments and involve a high degree of risk. An investor could lose all or a substantial portion of his/her investment. Investors must have the financial ability, sophistication/experience and willingness to bear the risks of an investment in a Hedge Fund.
An investment in a Hedge Fund should be discretionary capital set aside strictly for speculative purposes.
An investment in a Hedge Fund is not suitable or desirable for all investors. Only qualified eligible investors may invest in Hedge Funds.
Hedge Fund offering documents are not reviewed or approved by federal or state regulators
Hedge Funds may be leveraged (including highly leveraged) and a Hedge Fund’s performance may be volatile
An investment in a Hedge Fund may be illiquid and there may be significant restrictions on transferring interests in a Hedge Fund. There is no secondary market for an investor’s investment in a Hedge Fund and none is expected to develop.
A Hedge Fund may have little or no operating history or performance and may use hypothetical or pro forma performance which may not reflect actual trading done by the manager or advisor and should be reviewed carefully. Investors should not place undue reliance on hypothetical or pro forma performance.
A Hedge Fund’s manager or advisor has total trading authority over the Hedge Fund.
A Hedge Fund may use a single advisor or employ a single strategy, which could mean a lack of diversification and higher risk.
A Hedge Fund (for example, a fund of funds) and its managers or advisors may rely on the trading expertise and experience of third-party managers or advisors, the identity of which may not be disclosed to investors
A Hedge Fund may involve a complex tax structure, which should be reviewed carefully.
A Hedge Fund may involve structures or strategies that may cause delays in important tax information being sent to investors.
A Hedge Fund may provide no transparency regarding its underlying investments (including sub-funds in a fund of funds structure) to investors. If this is the case, there will be no way for an investor to monitor the specific investments made by the Hedge Fund or, in a fund of funds structure, to know whether the sub-fund investments are consistent with the Hedge Fund’s investment strategy or risk levels.
A Hedge Fund may execute a substantial portion of trades on foreign exchanges or over-the-counter markets, which could mean higher risk.
A Hedge Fund’s fees and expenses-which may be substantial regardless of any positive return- will offset the Hedge Fund’s trading profits. In a fund of funds or similar structure, fees are generally charged at the fund as well as the sub-fund levels; therefore fees charged investors will be higher that those charged if the investor invested directly in the sub-fund(s).
Hedge Funds are not required to provide periodic pricing or valuation information to investors.
Hedge Funds and their managers/advisors may be subject to various conflicts of interest.

The above general summary is not a complete list of the risks and other important disclosures involved in investing in Hedge Funds and, with respect to any particular Hedge Fund, is subject to the more complete and specific disclosures contained in such Hedge Fund’s respective offering documents. Before making any investment, an investor should thoroughly review a Hedge Fund’s offering documents with the investor’s financial, legal and tax advisor to determine whether an investment in the Hedge Fund is suitable for the investor in light of the investor’s investment objectives, financial circumstances and tax situation.

All performance information is believed to be net of applicable fees unless otherwise specifically noted. No representation is made that any fund will or is likely to achieve its objectives or that any investor will or is likely to achieve results comparable to those shown or will make any profit at all or will be able to avoid incurring substantial losses. Past performance is not necessarily indicative, and is no guarantee, of future results.

The information on the Site is intended for informational, educational and research purposes only. Nothing on this Site is intended to be, nor should it be construed or used as, financial, legal, tax or investment advice, be an opinion of the appropriateness or suitability of an investment, or intended to be an offer, or the solicitation of any offer, to buy or sell any security or an endorsement or inducement to invest with any fund or fund manager. No such offer or solicitation may be made prior to the delivery of appropriate offering documents to qualified investors. Before making any investment, you should thoroughly review the particular fund’s confidential offering documents with your financial, legal and tax advisor and conduct such due diligence as you (and they) deem appropriate. We do not provide investment advice and no information or material on the Site is to be relied upon for the purpose of making investment or other decisions. Accordingly, we assume no responsibility or liability for a ny investment decisions or advice, treatment, or services rendered by any investor or any person or entity mentioned, featured on or linked to the Site.

The information on this Site is as of the date(s) indicated, is not a complete description of any fund, and is subject to the more complete disclosures and terms and conditions contained in a particular fund's offering documents, which may be obtained directly from the fund. Certain of the information, including investment returns, valuations, fund targets and strategies, has been supplied by the funds or their agents, and other third parties, and although believed to be reliable, has not been independently verified and its completeness and accuracy cannot be guaranteed. No warranty, express or implied, representation or guarantee is made as to the accuracy, validity, timeliness, completeness or suitability of this information.

Any indices and other financial benchmarks shown are provided for illustrative purposes only, are unmanaged, reflect reinvestment of income and dividends and do not reflect the impact of advisory fees. Investors cannot invest directly in an index. Comparisons to indexes have limitations because indexes have volatility and other material characteristics that may differ from a particular hedge fund. For example, a hedge fund may typically hold substantially fewer securities than are contained in an index. Indices also may contain securities or types of securities that are not comparable to those traded by a hedge fund. Therefore, a hedge fund’s performance may differ substantially from the performance of an index. Because of these differences, indexes should not be relied upon as an accurate measure of comparison.