Management Compensation and Market Timing under Portfolio Constraints

41 Pages Posted: 25 Mar 2008 Last revised: 17 Mar 2015

Vikas Agarwal

Georgia State University; University of Cologne - Centre for Financial Research (CFR)

Juan-Pedro Gomez

IE Business School

Richard Priestley

Norwegian Business School

Date Written: October 14, 2012

Abstract

This paper shows that portfolio constraints have important implications for management compensation and performance evaluation. In particular, in the presence of portfolio constraints, allowing for benchmarking can be beneficial. Benchmark design arises as an alternative effort inducement mechanism vis-a-vis relaxing portfolio constraints. Numerically, we solve jointly for the manager's linear incentive fee and the optimal benchmark. The size of the incentive fee and the risk adjustment in the benchmark composition are increasing in the investor's risk tolerance and the manager's ability to acquire and process private information.

Keywords: Market Timing, Incentive Fee, Benchmarking, Portfolio Constraints

JEL Classification: D81, D82, J33

Suggested Citation

Agarwal, Vikas and Gomez, Juan-Pedro and Priestley, Richard, Management Compensation and Market Timing under Portfolio Constraints (October 14, 2012). Journal of Economic Dynamics and Control, Vol. 36, No. 10, 2012. Available at SSRN: https://ssrn.com/abstract=1107898 or http://dx.doi.org/10.2139/ssrn.1107898

Vikas Agarwal (Contact Author)

Georgia State University ( email )

35 Broad Street,
Suite 1221
Atlanta, GA 30303-3083
United States
404-413-7326 (Phone)
404-413-7312 (Fax)

HOME PAGE: http://www.gsu.edu/~fncvaa

University of Cologne - Centre for Financial Research (CFR)

Albertus-Magnus Platz
Cologne, 50923
Germany

Juan-Pedro Gomez

IE Business School ( email )

Maria de Molina 12
Madrid, 28006
Spain
34 91 7821326 (Phone)
34 91 7454762 (Fax)

HOME PAGE: http://www.ie.edu/faculty/juan-pedro-gomez/

Richard Priestley

Norwegian Business School ( email )

Nydalsveien
37
N-0442 Oslo, 0283
Norway
47 46410515 (Phone)

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