Detecting Investment Fraud Using the Bias Ratio

Abstract

Hedge funds play an important role in investment markets, but high-profile frauds and market manipulation have necessitated increased scrutiny for the detection and prevention of such activities. Market metrics which signal fraudulent activity quickly, early, and reliably are scarce and sometimes provide fallacious results. The bias ratio in conjunction with other metrics could provide a solution as it compares the real asset return distribution to that of unbiased returns. High bias ratios combined with statistical moments which differ considerably from those expected from normal distributions provide compelling evidence for possible return manipulation. Application of these metrics to known fraud cases shows that—used historically and in tandem—they would have provided powerful early indicators of suspicious investment activity. Uncovering these frauds earlier could have potentially saved investors considerable resources. The bias ratio also shows promising results in detecting other possible market scams such as insider trading.