UNDERSTANDING MUTUAL FUND AND HEDGE FUND STYLES USING RETURN-BASED STYLE ANALYSIS

We illustrate the use of return-based style analysis in practice using several examples. We demonstrate the importance of selecting the right style benchmarks and how the use of inappropriate style benchmarks may lead to wrong conclusions. For example, when style analysis is applied to sector-oriented funds, the set of benchmarks should include sector or industry indexes. We show how asset turnover and style graphs over time can be used to ensure right inference about the effective style of a fund, and how to extend return-based style analysis to analyze hedge fund styles. In the examples we consider, return-based style analysis provides insights not available through commonly used peer evaluation alone.