The intertemporal relation between tail risk and funds of hedge funds returns

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This chapter investigates the predictive relation between fund of hedge funds returns and tail risk. We find that tail risk as measured by both nonparametric and parametric value-at-risk positively predicts future fund of funds returns. We investigate the source of this finding by focusing on the individual moments of the empirical fund of hedge fund return distribution. We find that variance and skewness do not have any significant predictive power, whereas kurtosis positively predicts future returns on fund of funds. The positive relation between kurtosis and future fund of hedge funds returns is robust after controlling for past fund of hedge fund returns and a large set of macroeconomic variables associated with business cycle fluctuations.