Hedge Fund Performance Metrics

On the continuum between “shoot-the-lights-out performance” and “I can actually sleep at night,” most real money sits firmly in the second camp. That’s the entire game of investing in one line: push returns higher without pushing human nerves past their limits. Because investors don’t live in spreadsheets - they live in emotions, expectations, and the quiet 2 a.m. doubt that comes with deep drawdowns. The challenge isn’t just earning high returns. It’s earning returns you can stick with. That’s why the quality of the ride matters as much as the destination. A few metrics help map that terrain: CAGR – the long-term truth of your compounding. Volatility – the bumpiness that tests your resolve. Sharpe Ratio – return per unit of total risk taken. Sortino Ratio – return per unit of downside pain. Calmar Ratio – how much performance survives your worst drawdown. Together, they remind us of a simple, deeply human insight: Know thyself. Know how much turbulence you can really handle. Then build a portfolio that maximizes returns within that psychological boundary. Because the best strategy isn’t the one with the highest theoretical return - it’s the one you’ll still believe in when the market stops being polite.

Can you guess a fund's final performance based on interim quarterly reports?   Yes - according to a recent paper by Stanford and Chicago academics.   3 highlights - background, key findings, and applications for LPs:   ________________________   1️⃣ Background:   ‣ Interim fund NAVs are based on discretionary, "fair market value" valuations by GPs   ‣ Past studied have found that NAVs often deviate from fair value as they tend to: (i) be conservative on average (ii) get inflated around fundraising by low quality GPs (iii) held at cost when investments are underperforming   ‣ Can these patterns be exploited by LPs trying to predict final performance based on interim NAVs? ________________________   2️⃣ Key findings:   ‣ The paper builds three valuation metrics to predict future returns: (i) "interim multiple": fund TVPI at the time the forecast is made (ii) "past staleness": fraction of previous quarters with 0 changes in fair value (iii) "markdown frequency": fraction of previous quarters with negative changes in fair value   ‣ Overall, past staleness and markdown frequency predict future changes in multiples, but the results differ for buyouts vs venture capital   ‣ For buyouts: markdown frequency and past staleness (even in the first few years) predict negative future performance   ‣ For venture: higher interim multiples predict future negative returns, but past staleness and markdown frequency do not   ‣ "…the combination of interim multiple, past staleness, and past markdown frequency helps predict whether an investment will end up among the best or worst performing investments at exit. These predictions are informative as early as the first year of the investment."   ________________________   3️⃣ Applications for LPs:   ‣ Due diligence on primary commitments: analysing track record and projecting performance of currently active funds   ‣ Due diligence on secondary investments: modelling residual upside on funds   ‣ Portfolio monitoring: sense-checking valuations and projecting future performance ________________________   Source: "Interim Valuations, Predictability, and Outcomes in PE" - by Ege Ercan, Steven Kaplan, and Ilya Strebulaev - 2024   #privateEquity #ventureCapital #valuations

Quants should consider a variety of portfolio measures to assess the performance, risk, and characteristics of their portfolios. ♥️♥️♥️ Here are some key measures📚📚 1. Expected Return: The average return that the portfolio is expected to generate over a specific period. 2. Volatility (Standard Deviation): A measure of the dispersion of returns, indicating the portfolio's risk. 3. Sharpe Ratio: The ratio of the portfolio's excess return over the risk-free rate to its standard deviation, assessing risk-adjusted performance. 4. Beta: A measure of the portfolio's sensitivity to market movements, indicating systematic risk. 5. Alpha: The excess return of the portfolio relative to the return predicted by the CAPM, indicating the value added by active management. 6. Value at Risk (VaR): The maximum potential loss over a specified time period at a given confidence level. 7. Expected Shortfall (ES) or Conditional VaR: The expected loss given that the loss exceeds the VaR threshold, providing insight into tail risk. 8. Drawdown: The peak-to-trough decline in the value of the portfolio, indicating the maximum potential loss. 9. Sortino Ratio: Similar to the Sharpe ratio but only considers downside volatility, providing a measure of risk-adjusted return that focuses on negative returns. 10. Information Ratio: The ratio of the portfolio's excess return over a benchmark to the standard deviation of this excess return, assessing the efficiency of active management. 11. Tracking Error: The standard deviation of the portfolio's excess return relative to a benchmark, indicating the degree of deviation from the benchmark. 12. Jensen's Alpha: The difference between the actual return of the portfolio and the return predicted by the CAPM, adjusted for the risk-free rate. 13. Treynor Ratio: The ratio of the portfolio's excess return over the risk-free rate to its beta, assessing risk-adjusted performance relative to systematic risk. 14. Portfolio Turnover: A measure of the frequency with which assets in the portfolio are bought and sold, indicating trading activity and associated costs. 15. Correlation: The degree to which the returns of the portfolio move in relation to other assets or benchmarks, indicating diversification benefits. 16. Skewness: A measure of the asymmetry of the return distribution, indicating the likelihood of extreme positive or negative returns. 17. Kurtosis: A measure of the "tailedness" of the return distribution, indicating the likelihood of extreme returns. 18. Duration: The sensitivity of the portfolio's bond holdings to changes in interest rates, indicating interest rate risk. 19. Convexity: A measure of the curvature in the relationship between bond prices and yields, providing insight into interest rate risk. 20. Maximum Drawdown: The maximum observed loss from a peak to a trough of a portfolio, before a new peak is attained, providing insight into potential downside risk. #quantitativefinance #portfoliomanagement

DPI, TVPI, and RVPI are key performance metrics used in private equity to evaluate fund performance: DPI (Distributions to Paid-in Capital): This measures the realized returns of a fund. It's calculated by dividing the total distributions (money returned to investors) by the total paid-in capital. A DPI of 1.0x means investors have received back their entire investment[1][4]. TVPI (Total Value to Paid-in Capital): This metric provides a comprehensive view of a fund's performance, including both realized and unrealized returns. It's calculated by dividing the sum of the fund's distributions and current net asset value by the total paid-in capital. TVPI = DPI + RVPI[1][2]. RVPI (Residual Value to Paid-in Capital): This represents the unrealized portion of a fund's returns. It's calculated by dividing the current net asset value of the fund's investments by the total paid-in capital[1][3]. These metrics evolve over a fund's lifecycle. Initially, RVPI is high and equal to TVPI, while DPI is zero. As the fund matures and exits investments, DPI increases while RVPI decreases. At the end of a fund's life, only DPI remains, representing the final return to investors[1][3]. Each metric offers unique insights: DPI shows actual cash returned, TVPI provides an overall performance measure, and RVPI indicates potential future returns. Together, they offer a comprehensive view of a fund's performance and progress[2][4]. Sources [1] LP Corner: Fund Performance Metrics – Multiples TVPI, DPI and RVPI https://lnkd.in/eQeQpnXF [2] TVPI vs. DPI: PE Performance Metrics | Allvue Systems https://lnkd.in/eSgp-pjQ [3] What to Know About TVPI - AngelList - Education Center https://lnkd.in/eKnQGfRR [4] TVPI vs. DPI: The Measures That Matter for Private Equity Investors https://lnkd.in/er9-4qga [5] Distributed to Paid-In Capital (DPI) Definition - Moonfare https://lnkd.in/ehfmEb9T

Beta of 1.0 with Alpha That Compounds Investment managers live and die by their numbers: Performance, Performance, Performance. Top performers over a short period may feel good at the time, but more critical is consistency, a strong, repeatable process where there is an identifiable pattern of out-performance. Is the manager max-limit long, risk on with respect to duration or concentrated bets? Are the results noise, is beta masquerading as alpha? Measuring Sharpe ratio and Information ratio helps evaluate the quality of alpha that the manager generates against the benchmark. Sharpe Ratio measures the portfolio's excess return over risk-free rate divided by return volatility. Information Ratio measures the portfolio's excess return over benchmark divided by tracking error volatility. Leading capital allocators typically need a minimum of 3-years track record is recommended because any shorter period typically does not capture necessary data points. Savvy institutional clients and consultants ideally require a 5-year track record, whereby daily performance results over a long period of time capture a cycle of risk-on, risk-off, dislocation and recovery. eVestment maintains a great database where asset managers, consultants, and allocators can measure performance, Sharpe ratio, and Information ratio for any specific investment mandate. Transparent peer benchmarking per strategy such as: 1) HY Bonds vs. ICE BofA US High Yield Index 2) EM Credit vs. J.P. Morgan EMBI Global Diversified 3) BSL vs. Morningstar LSTA US Leveraged Loan Index. Go to Nasdaq's eVestment to see how each manager stacks up against the competition. Credit selection, index arbitrage, relative value and active management are critical when managing money that is benchmarked to an index as durable, repeatable alpha is the bright light that stands out.

Many market participants still rely almost automatically on the Sharpe Ratio when assessing the relationship between return and risk. It is widely used — but not always the most appropriate metric. Especially for funds with strong positive monthly performance, the Sharpe Ratio can paint a distorted picture. Why? Because it captures all volatility — not only downside fluctuations, but also upside volatility. In other words: If a fund regularly delivers months of +5%, +10% or even +20%, returns increase significantly — but so does measured volatility. And in the Sharpe Ratio, even this positive volatility effectively gets “penalized.” For strategies and funds with pronounced upside volatility, the Sortino Ratio is often the more meaningful measure. It focuses only on harmful volatility, meaning returns that fall below a target or minimum acceptable return. That is the key distinction: ▪️ Sharpe Ratio = return per unit of total volatility ▪️ Sortino Ratio = return per unit of downside volatility For a fund such as Intalcon Alpha for Impact Global, which repeatedly shows very strong positive months, the Sortino Ratio is, in my view, the more appropriate metric when linking return and risk in a fair and economically sensible way. My point is simple: Well-performing funds should not be penalized for being volatile to the upside. If we want to understand the true quality of returns, we should not look at Sharpe Ratio alone. In particular, for asymmetric and opportunity-driven strategies, the Sortino Ratio deserves far more attention. More on this topic in our magazine: "Sharpe vs. Sortino – Choosing the Right Reward-Risk Metric for Your Strategies" - see link in comments. What do you think: which metric is more relevant when assessing risk-adjusted returns — Sharpe Ratio or Sortino Ratio? #stockmarket #mutualfunds #hedgefunds

We just released the The 2nd annual Allocators Guide to Crypto Hedge Funds. A comprehensive look at hundreds of crypto hedge funds to unpack performance, dispersion, correlation, and volatility. The take-away? - Active management in crypto can outperform passive spot exposure. - Crypto hedge funds can offer far superior risk-adjusted returns vs. traditional hedge funds, net of fees. - Over 4 years, adding any amount of BTC improved portfolio returns along the efficient frontier. - Multi-Strat & Quant-Systematic strategies are the best performing category hands down over multiple crypto cycles. - Funds skew small and are a gold mine for emerging manager alpha... 90% of funds have less than $100M AUM today. - In one data set, the median fund delivered annualized returns of +93%, vs. 81% for BTC over 5 years. Notably, the median down month return (-7%) was substantially higher than BTC (-12.8%) , while the average monthly return was almost identical. *Special thanks to Preqin and Nilsson Hedge and the many managers who contributed data. Dive in and see for yourself! https://lnkd.in/gABP2ATc

While net performance ultimately determines what an LP receives on their investment in a fund, there are two important layers that we should consider when presenting performance. The first piece is gross vs. net performance. Howard Marks famously said 'you can't eat IRR', but you also can't eat gross performance. So why show it at all? I've always said gross numbers tell me how good of an investor someone is. This strips out all the 'other stuff' and shows how good you are at not only picking but helping and exiting. If gross tells me how good of an investor you are, the net shows me how good of a fund manager you are. While it's very hard to fabricate strong net returns without good gross returns, you can absolutely erode a large percentage of that with poor fund management. The good news is that fund management is a skill that can be taught in a pretty straightforward way, and most good managers correct their errors over time. The second piece, the more important one, is the fundamental metrics of portfolio companies. Because mark-ups can be slow, LPs can't just rely on the net fund level numbers, especially for an emerging manager early in its journey. There simply may not have been enough time, especially for pre-seed and seed investors, for these companies to mature to the point where you can confidently look at their impact on fund level returns. There is also the challenge for what is a growing profile of next-gen founders, ones who are focused on capital efficiency and where chasing the next big round and mark-up is never the goal. These companies can be performing incredibly well but not show up in the net (or gross) performance numbers. While net returns are what matter at the end of the day, the best LPs don't stop at the top-line as their basis for decision making. For GPs, you should be upfront about those figures, but don't be shy about the rest of the numbers that arguably matter more in the early years of your fund life. And if the LP remains fixated on that one number (or worse yet, the quartile ranking of your net performance against an ambiguous benchmark), they probably aren't the right fit anyway. #themoreyouknow #emergingmanagers #performance