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Executive Summary

In this paper, the authors investigate the influence of two factors on the risk taking behaviour of hedge fund managers. The first factor is the past performance of the fund relative to the performance of each fund's peer. The second is the option-like features of the typical hedge fund manager's compensation structure. They aim to answer questions of the following kind: do those funds that find that their incentive option is out of the money increase risk or vice-versa? They, then attempt to reconcile these results with the theoretical frameworks proposed. They believe these questions to be of critical importance given the recent performance of the hedge fund industry.

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