Hedge fund leverage: 2002–2017

Abstract

Using a large panel data set, we investigate the dynamics of hedge fund leverage from 2002 to 2017 and find considerable variations in both time series and cross section. More than 70% of hedge funds use leverage and almost half of the leveraged funds are levered through margin borrowing. On average, hedge funds decreased leverage prior to the beginning of the financial crisis, with leverage remaining below the pre‐crisis levels. We find that the level of leverage and its changes are related to fund characteristics such as age, governance, performance, risk, fees, liquidity, survival, and the birth of a new fund.

Leverage and Risk in Hedge Funds

“…A one standard deviation increase in the performance fee, or about 9.3 percentage points, is associated with a 4.9% decrease in capital relative to assets. These results are consistent with Liang and Qiu (2019), who also find an association between leverage and the performance fee in the TASS data.…”

“…Market discipline and prudent risk management therefore suggest that leverage and portfolio illiquidity are likely to be negatively related. Previous studies have documented a negative relationship between share restrictions and leverage using publicly available data (Liang and Qiu (2019)), but share restrictions embed both the liquidity of the assets and other factors such as manager discretion (Agarwal and Naik (2004)).…”

“…The Ang, Gorovyy, and van Inwegen (2011) study is also based on only a few hundred funds, whereas our data contain about 2,900 unique, large hedge funds. Liang and Qiu (2019) uses data from the Lipper TASS hedge fund database to examine various cross-sectional characteristics of hedge fund leverage. But due to the voluntary nature of the data and the infrequency with which leverage information is updated, this analysis may suffer from selection issues.…”

“…Ang, Gorovyy, and van Inwegen (2011) find that the relevant explanatory factors for hedge fund leverage are almost exclusively macro and time-series indicators -fund characteristics play only a small role in the total variation in hedge fund leverage Liang and Qiu (2019). examine the cross-sectional characteristics associated with changes in leverage, or for leverage levels in new funds, but not leverage levels across all funds.…”