The best time to allocate money to hedge funds is beginning in the third quarter – and it’s best to maintain those investments through June 30 of the following year – reveals new research from Mustafa Caglayan, associate professor in the FIU Business Department of Finance.
The study found that hedge funds, in contrast to regulated institutional investors, increase their demand for high book-to-market value stocks while decreasing their demand for low book-to-market growth stocks during the second quarter after companies’ annual reports are made public during the first quarter.
“Once hedge funds see the companies’ finances and compute their book-to-market values, they take advantage of the book-to-market anomaly by flipping their strategies away from growth stocks to value stocks, allowing them to separate from the rest of the crowd,” said Caglayan. “While other institutional investors also cut back on buying growth stocks, it’s not at same level and intensity as hedge funds.”
The study was published in the July 2018 Journal of Banking and Finance.
“Growth stocks that are heavily bought by non-hedge funds and simultaneously sold by hedge funds experience significant losses in the following year, providing evidence that hedge funds have better ability to detect mispricing within the context of the book-to-market anomaly,” said Caglayan.
Hedge funds have an advantage over their institutional counterparts in that they aren’t heavily regulated by government agencies and therefore have more flexibility in their investment strategies, including the use of short-sell, leverage and derivatives.
“They are more opportunistic,” said Caglayan. “They can buy and sell over shorter periods of time and make more trades than non-hedge fund investors to capitalize on market inefficiencies.”