Fund liquidation, self-selection and look-ahead bias in the hedge ...

over the entire sample period, moving forward by one quarter at the
peated
and adjusting the sample by including the funds that have a sufficiently
time
return history. Fund-of-funds are excluded to avoid double counting.
long
avoid backfilling bias, returns are only used in this exercise if the fund
To
hasahistoryofatleastfourquarters.
of all, in order to prevent spurious performance persistence patterns
First
are due to look-ahead bias (see, e.g. Carpenter and Lynch, 1999),
that
apply the correction method as introduced by ter Horst, Nijman and
we
we repeat the analysis of Baquero, ter Horst
Basically,
Verbeek (2005) by multiplying the performance measure (e.g. average
and
over the ranking period) with a estimated weight factor ŵ 1,it which is
return
ratio of an unconditional non-liquidation probability and a conditional
the
probability. The latter probability can be obtained from our
non-liquidation
liquidation process reported in Section 3. Let
estimated
( ∑ 6
1 + = ˆγ 1j r i,t−j
+ x ′ )
it
ˆβ 1 ˆα Φ
j=1
the estimated (conditional) probability that fund i does not liquidate
denote
period t, where Φ denotes the standard normal distribution function.
in
Then the denominator of w 1,it
∏t+s+1
τ =t+1 ˆp iτ
, (12)
s = 4(quarters) in case of annual persistence. The unconditional
where
is equal to the ratio of funds that were not liquidated during
probability
ranking period and the number of funds present at the beginning of the
the
For the evaluation period, we compute average returns within each
period.
again weighted by ŵ 1,it where the numerator now corresponds to the
decile,
of survived funds in the corresponding decile.
proportion
we correct for self-selection bias by multiplying the performance
Next,
with a second weight factor w 2,it . Thisfactoristheratioofthe
measure
probability of non-self-selection (conditional upon not being liquidated),
conditional
and an unconditional non-self-selection probability (conditional
not being liquidated). The conditional probability can be obtained
upon
the estimated self-selection process of Section 3. The unconditional
from
Verbeek (2001).
ˆp it
= ˆP {L it
=1|r i,t−1,r i,t−2, ..., x it
} =
(11)
in(9)isestimatedas
18