Abstract
The purpose of a hedge fund is to earn a positive return, which totally different from beating a standard market benchmark. To achieve its objective, fund manager takes long and short position to eliminate market risk. The benchmark for absolute-return investing usually is risk-free rate. Because Fung and Hsieh (2001) stated that trend-following strategy has the same payout as straddle, it is inappropriate to use a single-valued benchmark. In this thesis, we decompose the fund into capital-guaranteed part and speculative part and try to establish a more exible benchmark. After taking transaction costs into consideration, performance fee has a great impact on our benchmark. Therefore, we provide closed-form solutions to performance fee and investor's claim that can be applied to the valuation of hedge fund.