Correspondence: Roland Füss, Department of Empirical Research and Econometrics, University of Freiburg, Platz der Alten Synagoge, Freiburg im Breisgau, D-79085, Germany. Tel: +49 0 761 203 2341; Fax: +49 0 761 203 2340; E-mail: roland.fuess@vwl.uni-freiburg.de

¹Dr Roland Füss is Lecturer at the Department of Empirical Research and Econometrics and Assistant Professor at the Department of Finance and Banking at the University of Freiburg, Germany. He holds an MBA from the University of Applied Science in Lörrach, M.Ec. and PhD degree in Economics from the University of Freiburg. His research interests are in the field of applied econometrics, alternative investments as well as international and real estate finance. He has (co-) authored several articles in finance journals and book chapters. Further, he is a member of the Verein für Socialpolitik and of the German Finance Association.

²Dieter G. Kaiser is responsible for the institutional research at Benchmark Alternative Strategies in Frankfurt, Germany. He has worked for Dresdner Kleinwort Wasserstein and Crédit Agricole Asset Management in Frankfurt where he was responsible for the fund-of-hedge-funds Marketing Support. He has written several articles on the subject of alternative investments that have been published in professional as well as academic journals. He is the co-author and co-editor of five books on alternative investments published by John Wiley & Sons, Risk Books and Gabler. He holds a Diploma in Business Administration and a Master of Arts in Banking & Finance from the HfB - Business School of Finance and Management in Frankfurt, where he has also lectured on alternative investments since 2003.

³Zeno Adams is Research Assistant at the Department of Empirical Research and Econometrics, University of Freiburg, Platz der Alten Synagoge, D-79085 Freiburg im Breisgau, Germany.

Received 29 August 2006; Revised 29 August 2006.

Abstract

This paper examines the conditional volatility characteristics of daily management style returns and compares the out-of-sample forecasts of different Value at Risk (VaR) approaches, namely, the normal, Cornish–Fisher (CF), and the so-called GARCH-type VaR. The examination of the conditional volatility of hedge fund styles and composite returns shows important differences concerning persistence, mean reversion and asymmetry in the period under consideration. Hedge fund returns exhibit significant negative skewness and excess kurtosis, which cannot be captured in the normal VaR whereas the CF-VaR results in a systematic downward shift of the conventional VaR. The GARCH-type VaR, however, includes the time-varying conditional volatility and is able to trace the actual return process more effectively. Since the forecast performance cannot detect which of the three VaR types can match the time-varying risk adequately, an adjusted hit ratio takes the size of the hits as well as the average VaR into account. According to this, the GARCH-type VaR outperforms the other VaRs for most of the hedge fund style indices.