Why is Santa so kind to hedge funds? The December return puzzle!

Agarwal, V, Daniel, N and Naik, N (2007) Why is Santa so kind to hedge funds? The December return puzzle! Working Paper. London Business School BNP Paribas Hedge Fund Centre Working Paper Series.

Abstract

This paper is the first to document that hedge fund returns during December are significantly higher than those during the rest of the year. This December spike cannot be fully explained by increase in the fundsÂ’ risk exposures or by higher factor risk premiums in December. It contends that the contractual features provide hedge funds incentives to inflate returns at yearend and provides strong evidence in support of this argument. It also shows that the spike is higher for funds with greater opportunities to inflate returns. Finally, it demonstrates that funds inflate December returns by underreporting returns earlier in the year and/or by borrowing from January returns in the following year.