Performance characteristics of hedge funds and commodity funds: Natural vs. spurious biases

It is well known that the pro forma performance of a sample of investment funds contains biases. These biases are documented in Brown, Goetzmann, Ibbotson, and Ross (1992) using mutual funds as subjects. The organization structure of hedge funds, as private and often offshore vehicles, makes data collection a much more onerous task, amplifying the impact of performance measurement biases. This paper reviews these biases in hedge funds. We also propose using funds-of-hedge funds to measure aggregate hedge fund performance, based on the idea that the investment experience of hedge fund investors can be used to estimate the performance of hedge funds.