Measuring the time-varying systemic risks of hedge funds

With the rise of shadow banking, the threat posed by hedge funds to financial stability has become a major concern for regulators. In this paper, we propose a definition of hedge funds systemic risk based on the sensitivity of a banking index to hedge funds extreme losses. We then use regression methods based on extreme value theory to estimate this quantity, overcoming short reporting history encountered in commercial databases. This approach allows us to estimate the time-varying systemic risk contribution of hedge funds at the fund level, as well as the marginal effects of its determinants. We find that the fund's size, the use of leverage as well as market conditions associated with high uncertainty and low market liquidity all indicate higher systemic risk levels. Moreover, we show that hedge funds systemic risk significantly increased after 2008.