CFA Level I · CFA Level I Exam · Alternative Investment Performance and Returns
A hedge fund index is built only from funds that currently report to a database, and funds that closed after poor results are removed from the history. The index return is most likely:
The index return is most likely biased upward because of survivorship bias. Removing funds that closed after poor results leaves only successful funds in the history, which overstates average returns and understates downside risk.
- ABiased upward because of survivorship biasCorrect
- BBiased downward because of backfill bias
- CUnbiased because closed funds had low returns anyway
Explanation
Excluding failed funds leaves only successful ones, overstating average returns and understating risk. Backfill bias is a different issue, arising when funds add past results after listing.
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