The Road Less Traveled: Strategy Distinctiveness and Hedge Fund Performance

Abstract

We investigate whether skilled hedge fund managers are more likely to pursue unique investment strategies that result in superior performance. We propose a measure of the distinctiveness of a fund's investment strategy based on historical fund return data. We call the measure the “Strategy Distinctiveness Index” (SDI). We document substantial cross-sectional variations as well as strong persistence in SDI. Our main result indicates that, on average, a higher SDI is associated with better subsequent performance. After adjusting for risk, funds in the highest SDI quintile outperform funds in the lowest quintile by 3.5% in the subsequent year.