Essays on Hedge Funds, Regulatory Effects and Institutional Connections

Student thesis: Phd


This thesis consists of three essays on the bank-hedge fund relationships and the regulatory changes after the 2008 financial crisis. The first two studies investigate whether the Volcker Rule (section 619 of the 2010 Dodd-Frank Act), targeted at the banking sector, also affects the hedge fund industry. The third study examines the potential information flow between hedge funds and their prime brokers and its impact influence the choice of advisor and deal outcomes in M&A. The first essay examines the impact of the implementation of the Volcker Rule on funding liquidity of hedge funds, their liquidity risk exposure and liquidity provision to the market. Analysing a sample of 5,558 hedge funds, we find that following the legislation, capital flows to hedge funds decline, and their flow-performance sensitivity increases. Hedge funds reduce their market liquidity exposure and realign their market-making activities towards highly liquid stocks. These effects are mitigated for funds with low operational risks and those connected to the largest US-based prime brokers. The second essay finds that remunerative benefits accrue to managers of new hedge funds launched after the implementation of the Volcker Rule if their previous employer is a systemically important US bank. We attribute this phenomenon to changes in how investors perceive the distribution of managerial ability in the pool of new fund managers with prior banking experience after the Volcker Rule's implementation. Before the Volcker Rule, funds launched by ex-bankers charge higher incentive fees and are more likely to use a high-water mark, but receive less flows as compared with other new hedge funds established during the same period. After the Rule, ex-bankers' funds switch to a fee structure with higher management fees and receive more flows. However, such funds are indistinguishable from other new hedge funds in terms of performance, risk, and liquidation probability, both before and after the Volcker Rule. The third essay examines the impact of investment banks' connection with hedge funds on acquirer firms' choice of advisor and deal outcome in M&A. We find that acquirers are more likely to choose advisors whose connected hedge funds have holdings in the target one quarter before the deal announcement. Those holdings increase the likelihood of deal completion and are negatively related to the premium paid to the target and target abnormal returns when targets have higher degrees of information asymmetry. These results support our 'indirect toehold' hypothesis.
Date of Award1 Aug 2023
Original languageEnglish
Awarding Institution
  • The University of Manchester
SupervisorMichael Bowe (Supervisor) & Olga Kolokolova (Supervisor)

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