Funds of hedge funds’ role in portfolio diversification during crisis: the case of Cyprus

Despite the poor value delivered, institutional investors prefer to invest in funds of hedge funds (FOHFs) because of diversification opportunities they offer. Even though geography represents a core factor in diversification strategies, investment choices by managers are driven by the proximity to the hedge fund, therefore little is known on geographical diversification without US focus and on the contribution of the single country especially in the event of crisis. By looking at hedge funds from the UK, Ireland and Cyprus, results show that geographical diversification matters for FOHFs. Independently from the RAP measure selected, funds based in Cyprus do not outperform with respect to other market, but they contribute to the reduction of systemic risk, tracking error or downside risk exposure.