Commonality in hedge fund returns: Driving factors and implications |
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| Affiliation: | 1. Monash Business School, Caulfield East, VIC 3145, Australia;2. NYU Stern School of Business, New York, NY 10012, United States;3. Department of Finance, University of Melbourne, Melbourne, VIC 3010, Australia;4. Division of Accounting and Finance, Alliance Manchester Business School, Manchester M15 6PB, United Kingdom;5. Department of Accounting and Finance, Lancaster University Management School, Lancaster LA1 4YX, United Kingdom |
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| Abstract: | ![]()
We measure the commonality in hedge fund returns, identify its main driving factor and analyze its implications for financial stability. We find that hedge funds’ commonality increased significantly from 2003 until 2006. We attribute this rise mainly to the increase in hedge funds’ exposure to emerging market equities, which we identify as a common factor in hedge fund returns over this period. Our results show that funds with a high commonality were affected disproportionately by illiquidity and exhibited negative returns during the subsequent financial crisis, thereby providing little diversification benefits to the financial system and to investors. |
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| Keywords: | Hedge funds Commonality Risk factors Liquidity Financial crisis |
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