How Political Ideology Affects Hedge Fund Performance

An “abnormal” political event can lead to a large disparity in investment performance between Republicans and Democrats, research shows.

How your hedge fund portfolio performs after November won’t just be up to whether Hillary Clinton or Donald Trump wins the US presidential election—it could also be affected by whom your managers wanted to win, according to new research.

In the ten months following President Barack Obama’s win in 2008, Republican equity hedge managers underperformed Democratic peers by 72 basis points monthly, found the Haas School of Business’s Marian Moszoro and Michael Bykhovsky of the Center for Open Economics.

This underperformance was a direct result of an “overreaction” to Obama’s presidency, the researchers explained. Conservative commentators predicted that Democratic monetary policy would result in hyperinflation, while liberals defended the policies. In the end, equity markets “recovered at a fast pace,” and Democratic managers were rewarded for their optimism.

“Rational managers seeking to maximize their funds’ returns would ignore these prognostications in their allocation decisions,” Moszoro and Bykhovsky wrote. “Yet, we have observed differences in funds’ performance depending on the political preferences by managers.”

Though the effects of ideological differences are usually subtle—overall, fund performance was “roughly similar,” with Democrats performing only “slightly” better than Republicans from 1999 to 2014—they can become “salient during abnormal situations.”

In the case of Obama’s first election, the significant difference in investment performance was the result of a perfect storm of a financial crisis, election, and politically polarized interpretation of US central bank policy, the researchers said.

“While all equity hedge fund managers were exposed to the same data, managers’ investment decisions were affected by the framing dominant in their politically affine circles,” they concluded. “Partisan affiliation is an important bias in the financial industry.”

Read the full paper, “Political Cognitive Biases Effect on Fund Managers’ Performance.” 

Related: How a Trump Win Would Shake Up Asset Management