Guillermo Baquero

ESMT Working Paper

Hedge fund flows and performance streaks: How investors weigh information

ESMT Working Paper No. 15-01
Guillermo Baquero, Marno Verbeek (2015)
Abstract:
Subject(s): Finance, accounting and corporate governance
Keyword(s): Hedge funds, money flows, extrapolative expectations, law of small numbers, performance streaks, relative weights, smart money
JEL Code(s): G11, G12, G14, G23

We examine the relative weights hedge fund investors attach to past information in the fund selection process. The weighting scheme appears inconsistent with econometric forecasting models that predict fund returns, alphas or Sharpe ratios. In particular, investor flows are highly sensitive to performance streaks despite their limited predictive power regarding fund performance. Further, allocations based on forecast models’ out-of-sample predictions beat investor allocations by a significant margin, which suggests that the latter are suboptimal and reflect overreaction to certain types of information. Our findings do not support the notion that sophisticated investors have superior information or superior information processing abilities.

Pages 92
Publication Nr. 15-01
ISSN 1866–3494 (Print)

ESMT Working Paper

The generosity effect: Fairness in sharing gains and losses

ESMT Working Paper No. 13-08
Guillermo Baquero, Willem Smit, Luc Wathieu (2013)
Abstract:
Subject(s): Economics, politics and business environment, Management sciences, decision sciences and quantitative methods
Keyword(s): Fairness, loss domain, ultimatum game, dictator game, reference-dependent preferences, social preferences
JEL Code(s): D03, D81

We explore the interaction between fairness attitudes and reference dependence both theoretically and experimentally. Our theory of fairness behavior under reference-dependent preferences in the context of ultimatum games, defines fairness in the utility domain and not in the domain of dollar payments. We test our model predictions using a within-subject design with ultimatum and dictator games involving gains and losses of varying amounts. Proposers indicated their offer in gain- and (neatly comparable) loss- games; responders indicated minimum acceptable gain and maximum acceptable loss. We find a significant “generosity effect” in the loss domain: on average, proposers bear the largest share of losses as if anticipating responders’ call for a smaller share. In contrast, reference dependence hardly affects the outcome of dictator games -where responders have no veto right- though we detect a small but significant “compassion effect”, whereby dictators are on average somewhat more generous sharing losses than sharing gains.

Pages 47
Publication Nr. 13-08
ISSN 1866–3494 (Print)

ESMT Working Paper

Competition, loan rates and information dispersion in microcredit markets

ESMT Working Paper No. 12-02
Guillermo Baquero, Malika Hamadi, Andréas Heinen (2012)
Abstract:
Subject(s): Finance, accounting and corporate governance
Keyword(s): bank competition, microfinance, microcredit, microbank, loan rates, information dispersion, PAR, portfolio quality
JEL Code(s): D4, G21, L1, O1

We study the effects of competition on loan rates and portfolio-at-risk in microcredit markets using a new database from rating agencies, covering 379 microbanks located in 67 countries between 2002 and 2008. Our study reveals different competitive effects in nonprofit and for-profit microbanks. We find that for-profit microbanks charge significantly lower rates and exhibit improved portfolio-at-risk in less concentrated markets. In particular, the effect of concentration on loan rates is nearly three times the one reported in previous studies in banking. In contrast, nonprofit microbanks are relatively insensitive to changes in concentration. We control for interest rate ceilings, which very significantly reduce rates in for-profit microbanks. However, our study also uncovers a competitive interplay between for-profit and nonprofit microbanks. In particular, the PAR of nonprofit microbanks deteriorates when the proportion of profit-oriented microbanks increases. Finally, we find evidence consistent with dispersion of borrower-specific information among competing microbanks in the for-profit sector, even after controlling for the presence of credit registries.

Pages 57
Publication Nr. 12-02
ISSN 1866–3494 (Print)

Working Paper

Do 'sophisticated' investors believe in the law of small numbers?

Erasmus University Working Paper No. ERS-2006-033-F&A
Guillermo Baquero, Marno Verbeek (2008)
Abstract:
Subject(s): Finance, accounting and corporate governance
Keyword(s): Law of small numbers, performance persistence, overreaction, hedge fund investors, hot-hand bias
JEL Code(s): G11, G14, G23

Believers in the law of small numbers tend to overinfer the outcome of a random process after a small series of observations. They believe that small samples replicate the probability distribution properties of the population. We provide empirical evidence indicating that investors are mistakenly driven by this psychological bias when hiring or firing a fund manager. Using quarterly data between 1994 and 2000 of 752 hedge funds, we look at investment and divestment decisions of investors after a successful (or losing) streak of a fund manager. Apparently, sophisticated investors exhibit a "hot-hand" bias that may seriously harm their wealth.

Publication Nr. ERS-2006-033-F&A

Working Paper
New

Style investing: Evidence from hedge fund investors

Guillermo Baquero, Marno Verbeek (2008)
Abstract:
Subject(s): Finance, accounting and corporate governance

This study tests the hypothesis that one component of investors’ allocations across hedge funds takes place at the style level as a result of extrapolative expectations. Using a sample of 1543 hedge funds between 1994 and 2004, we decompose the allocation process of hedge fund investors between style allocation and fund selectivity. Our contribution is twofold. First, we find evidence that the aggregate of investors actively shift their allocations across style categories by chasing the winning styles in the previous one to three quarters. These results suggest that investors perceive styles as substitutes to each other, irrespective of the risk-return properties of each style category. Second, we do not find evidence of style-timing abilities of hedge fund investors, nor indications of momentum in style index performance at quarterly horizons. This suggests that the chasing-the-winner strategy among styles reflects correlated sentiment of investors, consistent with the style-investment hypothesis. Overall, our study raises concerns that, despite growth, capital is inefficiently allocated across hedge funds.


Working Paper

A portrait of hedge fund investors: Flows, performance and smart money

Erasmus University Working Paper No. ERS-2005-068-F&A (Revised: 2009-10-22)
Guillermo Baquero, Marno Verbeek (2005)
Abstract:
Subject(s): Finance, accounting and corporate governance
Keyword(s): hedge funds, flow-performance relation, performance persistence, liquidity restrictions, fund monitoring, searching costs, smart money
JEL Code(s): G11, G23, G14, G15

We explore the flow-performance interrelation by explicitly separating the investment and divestment decisions of hedge fund investors. The results show that different determinants and evaluation horizons underlie both decisions. While money inflows are sensitive to past long-run performance, outflows exhibit an immediate and sustained response to past performance in the short run. As a consequence, the shape of the flow-performance relation differs depending on the time horizon being analyzed. We find a weaker flow-performance relation for winning funds at quarterly horizons compared to annual horizons, which may explain why quarterly persistence in hedge fund performance is not competed away. Indeed, we also find evidence that most investors are unable to exploit the persistence of the winners. Conversely, investors are fast and successful in deallocating from the persistent losers, ensuring a disciplining mechanism for lowquality funds. Further, our findings do not support the existence of smart money.

Publication Nr. ERS-2005-068-F&A (Revised: 2009-10-22)

Working Paper

The convexity and concavity of the flow - performance relationship for hedge funds

Guillermo Baquero, Marno Verbeek
Abstract:
Subject(s): Finance, accounting and corporate governance
Keyword(s): Hedge funds, flow-performance relation, convexity, concavity, liquidity restrictions, managerial incentives
JEL Code(s): G11, G23, G14

The shape of the flow-performance relationship in the hedge fund industry is not constant over time, but varies across market conditions. We employ a switching regression approach to explain quarterly hedge fund flows, based on two regimes where either inflows or outflows are dominating, combined with a flexible functional form for each of the equations, allowing for a nonlinear impact of past performance at different lags. For most periods, the flow-performance relationship is locally convex for a large subset of funds but becoming concave for the top three deciles of performers. The kink in the top part is more pronounced when aggregate inflows to the industry are high. This effect seems mostly driven by funds that restrict new inflows, for example due to capacity constraints or decreasing returns to scale. These results are helpful in understanding the incentives of hedge fund managers based on both performance fees and management fees.