Bringing you live news and features since 2006 

EDHEC report suggests remedy for overstated performance of non-investable hedge fund indices


The biases that inflate the performance of hedge funds have been well documented in the financial literature. Survivorship bias, which results from the ex-post exclusion of unsuccessful funds from databases, and backfill or instant history bias, which occurs when the historical performance of a successful fund is retroactively added (backfilled) into the database, distort the performance of the hedge fund industry. These biases tend to inflate the returns posted by non-investable hedge fund indices.


Investable hedge fund indices can help investors mitigate the effects of these biases, but investable indices cannot include all existing funds. The number of underlying funds is often twenty times less than that of non-investable indices. In these conditions, investable indices are naturally less representative than non-investable indices. Consequently, it is hardly surprising that investable indices tend to underperform their non-investable versions.

In a new study entitled “A Suggestion for Remedying the Overstated Performance of Non-Investable Hedge Fund Indices,” EDHEC-Risk Institute examines whether the liquidity crisis that followed the Lehman collapse and significantly impacted the performance of hedge fund strategies (especially the strategies exposed to credit risk) has increased this excess return or not. The study compares the excess returns of non-investable indices and those of their investable counterparts before and after 2008.

The results show a striking contrast between liquid and illiquid strategies. For the latter, the significant increase in the excess returns of the non-investable indices during the second period perfectly coincided with the global credit crunch. By contrast, the most liquid strategies saw the excess returns of the non-investable indices decrease over the second period. By comparison with the upward trend characterising illiquid strategies, however, this downward trend is negligible.

The performance of multistrategy indices whose portfolios included illiquid (or less liquid) strategies was extraordinarily overstated after mid-2008. For example, the annualised performance of the HFRI EWS index was flat from January 2008 to January 2010 even though that of the investable index was down 635 basis points!

In the study, EDHEC-Risk Institute suggests a practical and easy-to-implement solution that could substantially reduce the biases that overstate the performance of non-investable indices, especially in periods of market stress. The solution involves a useful strategy by strategy adjustment between the non-investable EDHEC Alternative Indices and their investable equivalents. The model consists of regressing the returns of the non-investable EDHEC-Risk Alternative Index on the returns of the corresponding investable indices. The fraction of variance explained by the non-linear models varies from 43% to 82%.

Latest News

Morningstar has published a review of the European ETF market for the first quarter 2024, which finds that it gathered..
ETF data consultant ETFGI reports that assets invested in the global ETF industry reached a new record of USD12.71 trillion..
Calastone has published an ETF white paper which examines several of the processes that take place across the lifecycle of..
Adapting product lines to fit into changing methodologies and meet shifting demand is essential to remaining relevant in the industry..

Related Articles

US ETF issuers of active ETFs are facing an increase in fees from the big custodian firms, such as Charles...
Taylor Krystkowiak, Themes ETFs
Themes ETFs opened its doors in December 2023, with an introductory suite of 11 ETFs – seven thematic and four...
Konrad Sippel, Solactive
At the end of March, financial index specialist, Solactive, published its 2024 annual report on future trends.  ...
Lorraine Sereyjol-Garros, BNP Paribas
Following changes to the French Monetary and Financial Code and of the French market authority AMF’s General Regulation, it is...
Subscribe to the ETF Express newsletter

Subscribe for access to our weekly newsletter, newsletter archive, updates on the site and exclusive email content.

Marketing by