Economy – Quantitative Finance – Statistical Finance
Scientific paper
2010-05-27
Physica A 382(2), (2007) 565-576
Economy
Quantitative Finance
Statistical Finance
17 Pages
Scientific paper
10.1016/j.physa.2007.04.039
The proprietary nature of Hedge Fund investing means that it is common practise for managers to release minimal information about their returns. The construction of a Fund of Hedge Funds portfolio requires a correlation matrix which often has to be estimated using a relatively small sample of monthly returns data which induces noise. In this paper random matrix theory (RMT) is applied to a cross-correlation matrix C, constructed using hedge fund returns data. The analysis reveals a number of eigenvalues that deviate from the spectrum suggested by RMT. The components of the deviating eigenvectors are found to correspond to distinct groups of strategies that are applied by hedge fund managers. The Inverse Participation ratio is used to quantify the number of components that participate in each eigenvector. Finally, the correlation matrix is cleaned by separating the noisy part from the non-noisy part of C. This technique is found to greatly reduce the difference between the predicted and realised risk of a portfolio, leading to an improved risk profile for a fund of hedge funds.
Conlon Thomas
Crane Martin
Ruskin Heather J.
No associations
LandOfFree
Random Matrix Theory and Fund of Funds Portfolio Optimisation does not yet have a rating. At this time, there are no reviews or comments for this scientific paper.
If you have personal experience with Random Matrix Theory and Fund of Funds Portfolio Optimisation, we encourage you to share that experience with our LandOfFree.com community. Your opinion is very important and Random Matrix Theory and Fund of Funds Portfolio Optimisation will most certainly appreciate the feedback.
Profile ID: LFWR-SCP-O-192166