Is Goldman Sachs a Hedge Fund?

by Graham Giller February 11, 2009 14:45
It's common for people to quip "Goldman Sachs is just a large hedge fund." Armed with our series of the returns due to the risk premium associated with dynamic trading we can attempt to quantitatively answer that question by asking whether the monthly returns of Goldman Sachs Group Inc. is explained by the dynamic trading risk factor or whether it contains a significant idiosyncratic element, which would indicate that Goldman is more than just a hedge fund.

Our procedure is straightforward. We regress the monthly returns of GS common stock, adjusted for distributions, onto the series of factor returns. Our null hypothesis is that the alpha is non-zero and the beta zero, indicating that GS is not like a typical hedge fund making money by selling risk premia. The pure alternate hypothesis, that alpha is zero and beta is significant and positive, is that GS is just like a typical hedge fund. Of course, the real answer may lie somewhere in between.

(Just to be clear, I don't work for Goldman and have never worked for Goldman. I currently have no interest in them either positive or negative and don't currently have any exposure to their stock, although I have previously traded it.)

So, we follow our by now typical linear regression analysis.

In this analysis the data is divided into two wholly independent periods. Until the end of 2006 and from the start of 2007 to date (pro articulus and per articulus, so to speak). We see that the results of both periods are consistent with the alternate hypothesis -- that Goldman's monthly returns to investors (which are distinct to their actual return on equity for these periods) are wholly explained by the trading risk factor. The R-Squared's here are large (of order 40% and 50% respectively) and in both periods alphas are negative, but insignificantly different from zero, and the betas are over three and approximately 4 and 5 s.d. from unity; and the estimates from these independent periods are consistent with each other within the errors.

So in conclusion, this analysis supports the hypothesis that, as far as investors in its common stock are concerned, the returns of Goldman Sachs are similar to those of a typical hedge fund leveraged by three times more than the norm. Using the whole sample, we forecast a return for 02/2009 of 1.83%.

A VAMI chart is included below.


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About the Author

Graham Giller - Headshot GRAHAM GILLER
Dr. Giller holds a doctorate from Oxford University in experimental elementary particle physics. His field of research was statistical astronomy using high energy cosmic rays. After leaving Oxford, he worked in the Process Driven Trading Group at Morgan Stanley, as a strategy researcher and portfolio manager. He then ran a CTA/CPO firm which concentrated on trading eurodollar futures using statistical models. From 2004, he has managed a private family investment office. In 2009, he joined a California based hedge fund startup, concentrating on high frequency alpha and volatility forecasting. My updated resume is on LinkedIn.



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