Working Paper: NBER ID: w14424
Authors: Geetesh Bhardwaj; Gary B. Gorton; K. Geert Rouwenhorst
Abstract: Investors face significant barriers in evaluating the performance of hedge funds and commodity trading advisors (CTAs). The only available performance data comes from voluntary reporting to private companies. Funds have incentives to strategically report to these companies, causing these data sets to be severely biased. And, because hedge funds use nonlinear, state-dependent, leveraged strategies, it has proven difficult to determine whether they add value relative to benchmarks. We focus on commodity trading advisors, a subset of hedge funds, and show that during the period 1994-2007 CTA excess returns to investors (i.e., net of fees) averaged 85 basis points per annum over US T-bills, which is insignificantly different from zero. We estimate that CTAs on average earned gross excess returns (i.e., before fees) of 5.4%, which implies that funds captured most of their performance through charging fees. Yet, even before fees we find that CTAs display no alpha relative to simple futures strategies that are in the public domain. We argue that CTAs appear to persist as an asset class despite their poor performance, because they face no market discipline based on credible information. Our evidence suggests that investors' experience of poor performance is not common knowledge.
Keywords: Commodity Trading Advisors; Hedge Funds; Performance Evaluation; Information Asymmetry
JEL Codes: G12; G13
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| CTAs' strategic reporting (Y10) | perceived performance (L25) |
| lack of credible information (D83) | poor performance being not common knowledge (D29) |
| strategic reporting biases (D91) | inability to accurately assess the value of CTAs (D81) |
| lack of market discipline (G18) | persistence of CTAs in the market (G19) |
| lack of credible benchmarks (C52) | persistence of CTAs in the market (G19) |
| poor performance (D29) | persistence of CTAs in the market (G19) |
| fees (M52) | net investor returns (F21) |