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Cumulative Returns of Hedge Funds and Other Risk Assets
(1997-2012)
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Hedge Fund Performance

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Hedge funds were developed to help diversify investment portfolios, manage risk, and deliver reliable returns over time. Many investors use hedge funds as an uncorrelated diversification vehicle. Investors rely on hedge funds to produce “risk adjusted returns” and the most effective way to analyze their performance is to understand what these returns are.

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Hedge Fund Performance

  1. 1. 0% 5% 10% 15% 20% 25% 30% 35% Jan-08 Jun-08 Nov-08 Apr-09 Sep-09 Feb-10 Jul-10 Dec-10 May-11 Oct-11 Mar-12 Aug-12 12-MonthVolatility Hedge Funds S&P 500 Rolling Volatility of Hedge Funds vs. S&P 500 (January 2008 - December 2012) Rolling Sharpe Ratio of Hedge Funds vs. S&P 500 (January 2010 - December 2012) -1.0 -0.5 0.0 0.5 1.0 1.5 2.0 2.5 Jan-10 May-10 Sep-10 Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 3-YearSharpeRatio (RFR=2%) Hedge Funds S&P 500 HEDGE FUND PERFORMANCE Hedge funds were developed to help diversify investment portfolios, manage risk, and deliver reliable returns over time. Many investors use hedge funds as an uncorrelated diversification vehicle.i Investors rely on hedge funds to produce “risk adjusted returns” and the most effective way to analyze their performance is to understand what these returns are. Investors most commonly evaluate hedge funds by assessing their Sharpe Ratio over a number of years. A Sharpe Ratio measures performance while taking into account the amount of risk to which the investments are exposed. Comparing a hedge fund or hedge fund index’s Sharpe Ratio to the S&P 500’s Sharpe Ratioii is a good way to benchmark performance for hedge funds. Hedge Funds also produce less volatile returns. From 2008-2012:  Hedge fund volatility stayed within a range of 4.4% to 15.1%.  The volatility of the S&P 500 did not drop below 10% and topped out at over 30%. From 2010-2012, hedge funds have consistently outperformed the S&P 500 when their returns are measured using the Sharpe Ratio. Higher Risk-Adjusted Returns Lower Volatility Source: Preqin 2013 Source: Preqin 2013
  2. 2. Cumulative Returns of Hedge Funds and Other Risk Assets (1997-2012) Subscribe to MFA’s YouTube Channel: http://www.youtube.com/MFAupdates Follow MFA on LinkedIn Hedge funds’ risk adjusted performance is the main reason some of the smartest, most sophisticated investors choose to invest in this asset class. These institutions are looking for steady returns that are protected from unnecessary risk. MFA would like to acknowledge industry research firm Preqin for providing the data for this presentation. i Williamson, Christine. "Big public pension funds trump hedge fund benchmarks." Pensions & Investments, April 01, 2013. http://www.pionline.com/article/20130401/PRINTSUB/304019978/big-public-pension-funds-trump-hedge-fund-benchmarks. ii The Sharpe Ratio is widely recognized as one of the most appropriate metrics for hedge fund performance because it measures risk adjusted return. See sources: Deepak Gurnani, and Ludger Hentschel, and Christopher Vogt, “Hedge Funds Are Not an Asset Class: Implications for Institutional Portfolios,” Allstate Investments, LLC and Investcorp (2012) Huyen Nguyen-Thi-Thanh, “On the Consistency of Performance Measures for Hedge Funds,” Journal of Performance Measurement, 14 (2) (2010) (1-16) Serge Darolles, and Christian Gourieroux, “Conditionally Fitted Sharpe Performance with an Application to Hedge Fund Rating,” Journal of Banking and Finance, 34(3) (2010) (578-593) Martin Eling, and Frank Schuhmacher, "Does the choice of performance measure influence the evaluation of hedge funds?," Journal of Banking and Finance, 31 (2007): (2632-2647), A. Harri, and B.W. Brorsen, "Performance persistence and the source of returns for hedge funds," Applied Financial Economics, 14 (2004): (131-141), Greg Gregoriou, and Jean-Pierre Gueyie, "Risk-Adjusted Performance of Funds of Hedge Funds Using a Modified Sharpe Ratio," The Journal of Wealth Management, 6 (2003): (77-83). Thomas Schneeweis, and George Martin , "The Benefits of Hedge Funds Asset Allocation for the Institutional Investor," The Journal of Alternative Investments, 4 (2001): (7-26). Bing Liang, "Hedge Fund Performance: 1990-1999," Financial Analysts Journal, 57 (2001): (11-18), While the S&P 500 has made steady gains over the past three years, hedge funds still outperform the index over a fifteen year time period, which includes the financial crisis. The majority (65%) of hedge fund investors today are institutional investors such as public and corporate pension plans, university endowments and foundations and will typically stay committed to a selected manager for a number of years. According to research from Preqin, the average hedge fund holding period for institutional investors is five years. Follow MFA on Twitter at @MFAUpdates Stronger Performance Source: J.P. Morgan, Hedge Fund Research, Bloomberg

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