Home Bias and Local Contagion: Evidence from Funds of Hedge Funds
NBER Working Paper No. 19570
This paper analyzes the geographical preferences of hedge fund investors and the implication of these preferences for hedge fund performance. We find that funds of hedge funds overweight their investments in hedge funds located in the same geographical areas and that funds of funds with a stronger local bias exhibit superior performance. However, this local bias of funds of funds adversely impacts the hedge funds by creating excess comovement and local contagion. Overall, our results suggest that while local funds of funds benefit from local performance advantages, their local bias creates market segmentation that could destabilize financial markets.
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