Does the hedge fund industry deliver alpha?

We measure the total-risk-adjusted (as opposed to factor-risk-adjusted) performance of hedge fund indices in well-diversified portfolios. Alpha is defined as the difference between, on the one hand, the average return on a mean-variance efficient portfolio containing exclusively traditional market assets (such as stocks and bonds) and, on the other hand, the average return on a mean-variance efficient portfolio containing traditional market assets and the new asset (such as a hedge fund index), where both portfolios carry the same risk. Alpha is conditioned on this risk level. Outlier-robust mean-variance efficient portfolios are constructed by using Minimum Volume Ellipsoid (MVE) estimates of location and scatter. We find that, between July 1995 and December 2005, the broad Credit Suisse/Tremont hedge index did not deliver statistically significant alpha.Hedge fund; Total-risk-adjusted; factor-risk adjusted; alpha; market asset

Uncovering the Common Risk Free Rate in the European Monetary Union

We introduce Longitudinal Factor Analysis (LFA) to extract the Common Risk Free (CRF)rate from a sample of sovereign bonds of countries in a monetary union. Since LFA exploits the typically very large longitudinal dimension of bond data, it performs better than traditional factor analysis methods that rely on the much smaller cross-sectional dimension. European sovereign bond yields for the period 2006-2010 are decomposed into a CRF rate, a default risk premium, and a liquidity risk premium, shedding new light on issues such as benchmark status, flight-to-quality and flight-to-liquidity hypotheses. Our empirical findings suggest that investors chase both credit quality and liquidity, and that liquidity is more valued when aggregate risk is high.Factor analysis; risk free interest rate; sovereign bond; benchmark

Are finance constraints hindering the growth of SMEs in Europe?

This paper examines whether small and medium-sized enterprises (SMEs) in Europe suffer from a structural financing problem that hinders their growth. To this end, we estimate growth-cashflow sensitivities for firms in different size classes. Our results show that the sensitivity of company growth to cashflow rises as company size falls, which suggests that SMEs indeed encountered finance constraints that prevented them from fully exploiting their growth potential during the sample period 1996-2000. However, within each size class, quoted firms - even when small - tend to suffer less from finance constraints than unquoted firms

The Recursive Thick Frontier Approach to Estimating Efficiency

The traditional econometric techniques for frontier models, namely the Stochastic Frontier Approach (SFA), the Thick Frontier Approach (TFA) and the Distribution Free Approach (DFA) have in common that they depend on a priori assumptions that are, whether feasible or not, difficult to test. This paper introduces the Recursive Thick Frontier Approach (RTFA) to the estimation of technology parameters when panel data is available. Our approach is based on the assertion that if deviations from the frontier of X-efficient companies are completely random then one must observe for this group of firms that the probability of being located either above or below the frontier is equal to one half. This hypothesis can be tested for panel data sets but requires sorting of the full sample into a group of X-inefficient firms and a group of X-efficient (best practice) firms. The cost frontier is estimated using only the observations of the latter category.Cost/Production Function; Thick Frontier Approach; X-efficiency

Does the hedge fund industry deliver alpha?

We measure the total-risk-adjusted (as opposed to factor-risk-adjusted) performance of hedge fund indices in well-diversified portfolios. Alpha is defined as the difference between, on the one hand, the average return on a mean-variance efficient portfolio containing exclusively traditional market assets (such as stocks and bonds) and, on the other hand, the average return on a mean-variance efficient portfolio containing traditional market assets and the new asset (such as a hedge fund index), where both portfolios carry the same risk. Alpha is conditioned on this risk level. Outlier-robust mean-variance efficient portfolios are constructed by using Minimum Volume Ellipsoid (MVE) estimates of location and scatter. We find that, between July 1995 and December 2005, the broad Credit Suisse/Tremont hedge index did not deliver statistically significant alpha

SME finance in Europe: introduction and overview

Introducing the topic of SME finance and summarising the main findings of the contributions to this edition of the EIB Papers, this overview stresses the importance of relationship banking for the supply of SME credit; points out the differences and similarities in the capital structure of firms across size classes and across Europe; observes that while there is little evidence of widespread SME credit rationing, financial market imperfections may nevertheless curb SME growth; and highlights that the changes in Europe's financial landscape - including bank consolidation and Basel II - promise to foster SME finance

Comparing distributions: the harmonic mass index: extension to m samples

We extend the paper of Hinloopen and van Marrewijk (2005), who introduce the harmonic mass index to test whether two samples come from the same distribution, in the following directions. Firstly, we derive the Harmonic Weighted Mass (HWM) index for any number of samples. Secondly, this paper shows how to compute the HWM index without making any assumptions on the number of 'ties' (i.e. identical observations) within or between samples. Thirdly, we investigate ties with a Monte Carlo analysis, and find that the critical percentiles as reported in Hinloopen and van Marrewijk (2005), for two samples that are free of ties, are fairly accurate approximations of the HWM percentiles for two samples with ties when the sample size exceeds 50 observations. Furthermore, our results show that these percentiles are fairly accurate as well for cases where there are more than two samples

Economies of Scale and Efficiency in European Banking: New Evidence

This paper investigates the cost efficiency of 1974 credit institutions across 15 European countries over the five-year period following the implementation of the Second Banking Directive in 1993. The Recursive Thick Frontier Approach is employed to estimate a Augmented Cobb-Douglas cost frontier that allows banks of different types, in different periods, and belonging to different size categories, to operate at different costs per unit of assets. As size economies are exhausted at a balance sheet total of EUR 600 million, we do not find major economic gains from economies of scale for the overall European banking industry. However, the saving bank sector may reduce average costs with roughly 6% by choosing an optimal size for its institutions. No impact of technological progress on the average costs of the full sample of X-efficient banks could be detected but managerial efficient saving banks reduced average costs with 9% during our sample period. The most important reason for inefficiencies in the European banking is managerial inability to control costs. Although in some countries such as the UK and The Netherlands cost reductions were rapidly achieved, the average level of X-inefficiency of European banks still exceeded 16% in 1997.X-efficiency; Economies of scale; European Banking; Cost Frontier; Recursive Thick Frontier Approach

BANK SURVEY EVIDENCE ON "BANK LENDING TO SMEs IN THE EUROPEAN UNION"

This paper presents and analyses the results of a survey of some 400 credit institutions in the European Union carried out by the European Investment Bank in the summer of 2003. An indepth analysis of the survey responses of 74 participating banks leads to the following conclusions: (1) despite the downturn of the European economy, growth of EU bank lending continued at a high pace in 2000-2002; Small and medium-sized enterprises (SMEs) were contributing to credit growth at least as much as large firms; the expansion of firm credit portfolios is expected to slow down in the year 2003 across all size classes, but most strongly for large firms; banks expect unused credit lines to increase in 2003 irrespective of firm size, weakening the argument that credit rationing is hampering economic growth; (2) in contrast to conventional wisdom, survey outcomes suggest that bank consolidation is not necessarily harmful for SME lending; large banks in the EU devote almost 70% of their firm credit portfolio to SMEs (this is comparable to the involvement of small and medium-sized banks), and they do not foresee a reduction in their SME lending; it is likely that the European banking market will be increasingly dominated by commercial banks, but this change should neither be seen as a blow to SME bank finance; on the contrary, survey results indicate that commercial banks assign a higher share of their credit portfolio to small firms than savings banks and co-operative banks; (3) while bankers, on average, expect that a new Basel capital accord will make large firm lending more attractive than SME lending, they are not planning to reduce the share of SME loans in their loan portfolios; (4) although a portfolio of SME loans is hardly more risky than a portfolio of large company loans, the effective interest rate on credits to small (mediumsized)firms is on average 160 (90) basis points higher than on large company credits; neither credit risk nor loan generation costs seem sufficient to explain this mark-up, leading to the conclusion that SME lending is more profitable than large company lending; (5) a substantial number of credit institutions consider to securitize part of the SME loan portfolio in the future, but only on a limited scale.Bank lending; European Union; credit institutions; SMEs loans

Financing infrastructure

A review of the 2010 EIB Conference in Economics and Financeinfrastructure; public investment; corporate investment; investment funds