Cornell University Johnson at Cornell University


Hedge fund tip

Xiaoyan Zhang

Although much work has been done to understand risk and return properties for particular hedge fund strategies, little has been done to uncover the impact of managers' characteristics on hedge fund performance. With top hedge fund managers' compensation reaching the million- and even billion-dollar mark, assistant professor of finance Xiaoyan Zhang and her coauthors set out to explore which manager characteristics had the most impact on hedge fund performance.

Zhang found that managers from higher-SAT undergraduate institutions tend to have higher raw and risk-adjusted returns, and take fewer risks. Younger managers tend to have higher returns, and take more risks; and younger and better-educated managers tend to attract more capital inflows. The findings were reported in The New York Times, "What SAT Scores Say About Your Hedge Fund" (9/9/07) and in Institutional Investor, "Better Educated, Greener Hedgies Are Best" (8/16/07).

The results can be significant. For managers following a "risk arbitrager" strategy, a 200-point increase in SAT scores leads to a higher abnormal return per year of about 1.6 percent. For managers who implement a "trend follower" strategy, the same 200-point increase in SAT scores leads to a higher risk-adjusted return of 2.9 percent.

"Our results suggest that better-educated managers are better at their jobs and can achieve higher returns at lower risk exposures," commented Zhang. "It's also consistent with the hypothesis that younger managers have stronger incentives to work hard at their jobs and are more willing to take risks, and consequently tend to have better performance than older and more established managers."

– Deirdre Snyder and Emily A. Réjouis '08