Close communications : hedge funds, brokers and the emergence of herding

We examine how communication, evaluation and decision-making practices among competing market actors contribute to the establishment of herding and whether this has impact on market-wide phenomena such as prices and risk. Data are collected from inter-views and observations with hedge fund industry participants in Europe, the USA and Asia. We examine both contemporaneous and biographical data, finding that decision-making relies on an elaborate two-tiered structure of connections among hedge fund managers and between them and brokers. This structure is underpinned by idea sharing and development between competing hedge funds leading to ‘expertise-based’ herding and an increased probability of over-embeddedness. We subsequently present a case study demonstrating the role that communication between competing hedge funds plays in the creation of herding and show that such trades aect prices by introducing an additional risk: the disregarding of information from sources outside the trusted connections