Grey matters

Which Institutional Investor Types Are the Most Informed?

Zhe Chen, David Forsberg, & David R. Gallagher

(October 24, 2016) available at

The authors examine the informativeness of quarterly disclosed portfolio holdings across four institutional investor types: hedge funds, mutual funds, pension funds, and private banking firms. Overweight positions outperform underweight positions only for hedge funds. By decomposing holdings and stock returns, they find that hedge funds are superior to other institutional investors both at picking industries and stocks, and that they are better at forecasting long-term as well as short-term returns. Furthermore, their results show that hedge funds, mutual funds and pension funds are able to successfully time the market. The outperformance of hedge funds is not explained by a liquidity premium.

CFR comment:
This is a terrific empirical piece, which finds that hedge funds seem to outperform other institutional investors, showing an avenue by which fund managers add value. Interestingly, this advantage comes from liquid investments rather than illiquid ones. Worth a read.

Funding Liquidity Risk and the Dynamics of Hedge Fund Lockups

Adam L. Aiken, Christopher P. Clifford, Jesse A. Ellis & Qiping Huang

(October 5, 2016) available at

We exploit the expiring nature of hedge fund lockups to create a dynamic, fund-level proxy of funding liquidity risk. In contrast to the prior literature, our measure allows us to identify how within-fund changes in funding liquidity risk are associated with performance and risk taking. Lockup funds with lower funding liquidity risk take more tail risk and have better risk-adjusted performance, suggesting reduced funding liquidity risk enables funds to better capitalize on risky mispricing. Surprisingly, lockup funds outperform non-lockup funds even when controlling for restricted capital, suggesting that a portion of the lockup premium is attributable to a “lockup-fixed effect.”

CFR comment:
In an interesting paper, a group of graduate students explore the impact of lockup provisions in hedge funds using a dataset of over 3,800 funds. An excellent read.


With a new administration and Congress on the way in the U.S. and new governments potentially on the horizon in many EU countries (plus Brexit!), a look at some calls for reforms can help identify changes that may be in the works.

Preserving the Corporate Superego in a Time of Activism: An Essay on Ethics and Economics

John C. Coffee Jr.

(September 16, 2016) available at

This essay focuses on the impact of recent changes in corporate governance on ethical behavior within the public corporation. It argues that a style of corporate behavior – one characterized by a risk tolerant, even reckless, pursuit of short-term profits and a disregard for the interests of non-shareholder constituencies – is attributable in significant part to recent changes in corporate governance, including the rise of hedge fund activism, greater use of incentive compensation, and the appearance of blockholder directors. It then surveys feasible responses intended to strengthen the role of the boards as the corporation’s conscience and superego. Given the difficulty of reform, it predicts that the problems identified are likely to get worse before they get better.

CFR comment:
Prof. Coffey is among the preeminent corporate law experts in the U.S. legal academy and this essay gives a good overview of what he sees as a significant problem that needs to be addressed.


A Tale of Regulatory Divergence: Contrasting Transatlantic Policy Responses to the Alleged Role of Alternative Investment Funds in Financial Instability

Hossein Nabilou

CAPITAL MARKETS LAW JOURNAL 12(1), forthcoming, available at

This article analyzes the regulatory measures adopted to address the potential contribution of hedge funds to financial instability in the U.S. and the EU in the wake of the global financial crisis. The relevant provisions of the Dodd-Frank Act include two sets of direct regulatory measures. The first set of these measures addresses information problems, whereas the second set is intended to address potential too-big-to-fail problems by imposing prudential regulation on systemically important nonbank financial companies. The article then studies the Volcker Rule, as an indirect regulatory measure intended to address the potential systemic risk of hedge funds originating from their interconnectedness with Large Complex Financial Institutions (LCFIs). The second part of this article analyzes the European Directive on Alternative Investment Fund Managers and its attempt to address the potential contribution of hedge funds to financial instability.

CFR comment:
Despite the common driving forces of hedge fund regulation across the Atlantic, ultimate policy outcomes were significantly divergent. Primarily concerned with creating a single market for Alternative Investment Funds, EU regulators prioritized the EU passport mechanism, which engendered demand for investor protection and more stringent and direct regulatory measures. In contrast, the main concern in the U.S. remained to be addressing potential systemic risk of hedge funds. Such differential regulatory objectives gave birth to indirect regulation of hedge funds with a focus on their interconnectedness with LCFIs. This is mainly embedded in the provisions of the Volcker Rule; a rule whose absence is significantly palpable in the EU regime for regulating hedge funds.