FRM Part I · FRM Exam Part I · Fund Management
A hedge fund database contains only funds that are currently reporting. Funds that closed after poor performance have been deleted from the history. When analysts compute the average historical return of funds in this database, which bias is most directly present?
Survivorship bias is present, and it overstates average returns. Because funds that closed after poor results are deleted, only successful funds remain in the data, so the historical average is higher than what investors in the full population of funds actually earned.
- ASurvivorship bias, which overstates average returnsCorrect
- BBackfilling bias, which understates average returns
- CLook-ahead bias, which understates volatility
- DSelection bias that always lowers reported Sharpe ratios
Explanation
Removing funds that failed leaves only the survivors, which typically had better returns. The average return of the remaining funds is therefore biased upward. Backfilling is a different issue involving history added after a fund joins the database.
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