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Margins and Hedge Fund Contagion

Published online by Cambridge University Press:  27 May 2011

Evan Dudley
Affiliation:
University of Florida, Warrington College of Business Administration, PO Box 117168, Gainesville, FL 32611, evan.dudley@warrington.ufl.edu
Mahendrarajah Nimalendran
Affiliation:
University of Florida, Warrington College of Business Administration, PO Box 117168, Gainesville, FL 32611, mahen.nimalendran@warrington.ufl.edu

Abstract

Funding risk measures the extent to which a fund can borrow money by posting collateral. Using a novel measure of funding risk based on futures margins, we are able to empirically identify the mechanism by which changes in funding risk affect the likelihood of contagion. An increase in margins of the order of magnitude observed during the subprime crisis increases the probability of contagion among certain types of funds by up to 34%. Our analysis shows that some types of hedge funds are more vulnerable to contagion than others. Our results also suggest that policies that limit the magnitude of changes in margins over short periods of time may reduce the likelihood of contagion among hedge funds.

Type
Research Articles
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2011

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