Can Hedge Funds Time Market Liquidity

By Charles Cao, Yong Chen, Bing Liang, Andrew W. Lo. 2012

186 citations recorded by the source corpus.

We explore a new dimension of fund managers' timing ability by examining whether they can time market liquidity through adjusting their portfolios' market exposure as aggregate liquidity conditions change. Using a large sample of hedge funds, we find strong evidence of liquidity timing. A bootstrap analysis suggests that top-ranked liquidity timers cannot be attributed to pure luck. In out-of-sample tests, top liquidity timers outperform bottom timers by 4.0–5.5% annually on a risk-adjusted basis. We also find that it is important to distinguish liquidity timing from liquidity reaction, which primarily relies on public information. Our results are robust to alternative explanations, hedge fund data biases, and the use of alternative timing models, risk factors, and liquidity measures. The findings highlight the importance of understanding and incorporating market liquidity conditions in investment decision making.

Subfields: Finance

View Paper: https://www.semanticscholar.org/paper/4ae28f726a660f1db9f6aa8b138fa3fd70604fcc

Citations in the corpus

• ... and the Cross-Section of Expected Returns (2013, unknown): “(2006), Kosowski, Naik, and Teo (2007), Fama and French (2010), Cao et al. (2013), and Harvey and Liu (2014c). 36 Notice that this assumption is not necessary for our approach.”
• Noise as Information for Illiquidity: Noise as Information for Illiquidity (2013, unknown): “(22)As mentioned in Cao et al. (2013), smaller funds with AUM less than $10 million are of less concern from an institutional investors perspective, and they have less impact on the market as well.”