Seminar Date: 2^nd December, 2014 (Tuesday)

Seminar Time: 10:30 a.m. - 12:00 p.m.

Seminar Venue: Kingdom Hall, 2F, Building 1, College of Management(冠德講堂)

Speaker: Prof. Sa-Aadu

Title: Market Liquidity, Funding Liquidity, and Hedge Fund Performance

Abstract:

This paper provides evidence on the interaction between hedge funds’ performance and their market liquidity risk and funding liquidity risk. Using a 2-state Markov regime switching model we identify regimes with low and high market-wide liquidity. While funds with high market liquidity risk exposures earn a premium in the high liquidity regime, this premium vanishes in the low liquidity states. Moreover, funding liquidity risk, measured by the sensitivity of a hedge fund’s return to the TED spread, is an important determinant of fund performance. Hedge funds with high loadings on the TED spread underperform low-loading funds by about 1.54% (8.77%) annually in the high (low) liquidity regime, during 1994-2010. Hedge fund returns are the highest (lowest) for funds with high (low) market liquidity exposure and low (high) funding liquidity exposure. Collectively, these results provide support for the Brunnermeier and Pedersen (2009) theoretical model that rationalizes the link between market liquidity and funding liquidity.