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Abstract "This contribution proposes indicators suitable for monitoring systemic risk in the hedge fund industry. The proposed measures are based on aggregate sector-wide individual interdependencies of performance rates between individual hedge funds and the industry as a whole. The information relevant for this purpose is extracted from a large set of fund-individual regressions by aggregating significant coefficients found across the industry. The results produced demonstrate that the indicators proposed can successfully identify almost all financial crises included in the reporting sample (January 1995 to October 2013). In addition, the results prove quite robust with respect to variations in model specification, increasing the econometric reliability of the proposed measures. The methodology works for the entire global hedge fund industry as well as for the hedge fund industry of the EU, even if minor qualitative differences cannot be ruled out. One of the main advantages of the methodology proposed is its versatility: It can be applied to other parts of the fund industry with only limited adjustment effort, making comparable indicators available for systemic risks in different fund sectors."

Additional Nematrian Commentary The authors of this part of the ESMA Risks, Trends and Vulnerabilities Report seek to identify ways of monitoring systemic risk in the hedge fund industry. They assess the extent to which specific hedge funds appear to be ‘destabilising’, i.e. adopting strategies that appear to be driving the hedge fund sector away from some alleged equilibrium, or ‘stabilising’, i.e. those pushing the sector back towards a more stable situation. ‘Destabilising’ and ‘stabilising’ are here assessed by reference to autocorrelations between an individual fund’s return in a given period with its own return and those of other hedge funds in subsequent periods. The authors propose measures based on the fraction of funds that appear to be significantly ‘destabilising’ (or alternatively ‘stabilising’) and show that these measures display temporary spikes around the time of events that appear to have systemic importance.

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