Real World Calibration Notes: Hedge Funds
Document ID: 2006-273 (previously 19)
Published on: 31st August 2006
Author: Martin Skrk, Colin Holmes
The impressive past performance reported from hedge fund investments has led to large inflow of funds to this asset class - including from institutional investors. In this report we present some analysis of historical hedge fund returns, coupled with arguments from financial economics, in order to set out appropriate assumptions for the modelling of a diversified portfolio of hedge funds in a real-world (best-estimate) setting. Due to a short data history and difficulties specific to hedge funds, such as valuation and reporting practices, setting calibration targets for hedge fund performance is a challenging task. In this note, we highlight these difficulties, and discuss how they impact upon the targets which we choose to set. Our targets suggest that, for the hedge fund industry as a whole, historical performance should certainly not be taken as a guide to future performance.
