Key Takeaways
- • Academic researchers Thomas Schneeweis and Hossein Kazemi challenge claims in Simon Lack's 2012 book "The Hedge Fund Mirage," which questioned whether hedge fund performance justifies investor fees and returns.
- • Hedge fund returns are driven by a combination of manager skill and systematic market factors—including credit spreads and volatility changes—rather than exclusively by individual manager alpha, according to 15 years of academic research cited by Schneeweis and Kazemi.
- • Investors must distinguish between truly absolute return strategies with low volatility and firms simply labeled "absolute return" that lack correlation to traditional benchmarks but carry significant return volatility and market factor exposure.
- • Hedge fund performance attribution requires understanding both the unique trading capability of individual managers and the underlying returns attributable to hedge fund strategy or investment style itself.
Summary
In Part II of an academic rebuttal to Simon Lack's 2012 critique of the hedge fund industry, renowned academics Thomas Schneeweis and Hossein Kazemi address a central claim in "The Hedge Fund Mirage"—that hedge funds' stated absolute return positioning masks performance shortcomings relative to fees and investor expectations. The rebuttal, published in Opalesque Futures Intelligence in January 2013, follows Part I from the December 2012 issue.
The academics focus on the term "absolute return" as a source of investor confusion. While some hedge fund and mutual fund firms use this designation to indicate they do not track a stated benchmark, Schneeweis and Kazemi argue that investors must distinguish between strategies with genuine low volatility and minimal market correlation versus those simply labeled absolute return but exhibiting substantial return volatility and traditional market factor exposure. This distinction is critical for institutional investors evaluating strategy risk and performance legitimacy.
The core of their response centers on performance attribution. Drawing on nearly 15 years of academic research spanning studies from 1998 through 2012, Schneeweis and Kazemi demonstrate that hedge fund returns are not generated exclusively by manager skill or alpha. Instead, returns reflect a combination of manager skill and systematic market factors—particularly changes in credit spreads and market volatility—that are directly tied to the funds' fundamental security holdings. This framework reframes the hedge fund return profile as a blended product of individual manager ability and the inherent returns generated by the underlying hedge fund strategy or investment style itself.
This academic perspective suggests that evaluating hedge fund performance requires decomposing returns into skill-based and factor-based components. Understanding this distinction enables institutional investors to more accurately assess whether stated performance reflects genuine alpha generation or returns attributable to exposure to quantifiable market factors. The debate between Lack's critical stance and the Schneeweis-Kazemi defense reflects broader institutional questions about hedge fund value proposition and fee justification in the post-2008 financial crisis environment.
The academics focus on the term "absolute return" as a source of investor confusion. While some hedge fund and mutual fund firms use this designation to indicate they do not track a stated benchmark, Schneeweis and Kazemi argue that investors must distinguish between strategies with genuine low volatility and minimal market correlation versus those simply labeled absolute return but exhibiting substantial return volatility and traditional market factor exposure. This distinction is critical for institutional investors evaluating strategy risk and performance legitimacy.
The core of their response centers on performance attribution. Drawing on nearly 15 years of academic research spanning studies from 1998 through 2012, Schneeweis and Kazemi demonstrate that hedge fund returns are not generated exclusively by manager skill or alpha. Instead, returns reflect a combination of manager skill and systematic market factors—particularly changes in credit spreads and market volatility—that are directly tied to the funds' fundamental security holdings. This framework reframes the hedge fund return profile as a blended product of individual manager ability and the inherent returns generated by the underlying hedge fund strategy or investment style itself.
This academic perspective suggests that evaluating hedge fund performance requires decomposing returns into skill-based and factor-based components. Understanding this distinction enables institutional investors to more accurately assess whether stated performance reflects genuine alpha generation or returns attributable to exposure to quantifiable market factors. The debate between Lack's critical stance and the Schneeweis-Kazemi defense reflects broader institutional questions about hedge fund value proposition and fee justification in the post-2008 financial crisis environment.
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