Simulation and Asset Management

This article uses a simulation framework similar to MBB but applies it to the evaluation of portfolio construction approaches subject to real life constraints and uses additional performance metrics that evaluate the marginal portfolio contribution of a hedge fund portfolio to an investor’s original portfolio.

This study intentionally uses a few commonly used measures of performance to illustrate that the framework is not limited to a single measure. The framework is customizable to the preferences and constraints of individual investors regarding rebalancing periods and the desired number of funds in a portfolio and can incorporate a large number of portfolio construction and fund selection approaches.

The methodology produces implementable results because it explicitly accounts for the hedge fund reporting delay reported in MBB and applies an in-sample/out-of-sample framework that incorporates common investment constraints when creating and rebalancing portfolios. The framework imposes the standard requirements of institutional investors regarding track record length and the amount of AUM. It also limits the number and turnover of funds in the portfolio by assuming that the institutional investor selects a discrete number of funds that stay in the portfolio until they no longer satisfy selection criteria.3 The methodology utilizes a simulation framework to account for a large number of feasible portfolio constituents in each period.

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