Practical Consequences of the Use of Benchmarks to Measure Hedge Fund Performance by Pension Funds and Institutional Investors (Part Two of Two)

Hedge funds seek absolute returns and, unlike mutual funds, are not legally required to identify a benchmark or report performance against certain indices.  However, as pension funds and other institutional investors evaluate hedge funds’ performance, either explicitly or implicitly, against benchmarks, hedge fund managers themselves may also provide benchmarked performance information.  The first article in our two-part series explored the extent to which, and the means by which, pension funds and institutional investors employ benchmarks in their assessments of hedge fund performance.  This article examines the practical consequences of subjecting hedge funds to performance benchmarks, including whether this practice could cause hedge funds to shift away from their traditional absolute returns-based performance emphasis, toward a focus on benchmarked results; whether hedge fund managers have themselves been influenced to publish benchmarked performance information and the implications of doing so; and the parameters surrounding the use of benchmarks for hedge fund performance evaluation.  For discussion of another practice of measuring hedge fund performance, see “Legal Risks for Hedge Fund Managers of Using Target Returns (Part Two of Two),” Hedge Fund Law Report, Vol. 8, No. 17 (Apr. 30, 2015).

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