Hedge fund fudging scrutinized

Hedge fund managers may be overvaluing the prices on illiquid securities in order to keep investors in the game, according to new academic research. An analysis of monthly returns made available to clients from 4,268 hedge funds between 1994 and 2005 revealed that very few funds reported slight losses, while a large number of them reported slight gains in any given month. But on audit dates and during the two months leading up to them, the hedge funds did not round up their returns, according to data from the Center for International Securities and Derivatives Markets database. The funds also avoided rounding annual returns, suggesting that some fund managers were polishing their returns for investors to keep their capital in the game, yet remaining on their best behavior when audits rolled around. About 10% of the firms studied had distorted returns, indicating widespread fudging of results, according to the paper “Do Hedge Fund Managers Misreport Returns?” by Nicolas P.B. Bollen, an associate finance professor at Vanderbilt University, and Veronika K. Pool, an assistant finance professor at Indiana University. “Though small markups do not directly put a fund’s investors at risk,” the paper noted. “They may indicate more serious violations of an adviser’s fiduciary duty.”