The Delegated Lucas-Tree

71 Pages Posted: 15 Mar 2010 Last revised: 28 Sep 2013

See all articles by Ron Kaniel

Ron Kaniel

University of Rochester - Simon Business School; CEPR

Peter Kondor

London School of Economics & Political Science (LSE); Central European University (CEU)

Date Written: March 2012


We analyze the effects of the observed increased share of delegated capital for trading strate-gies and equilibrium prices by introducing delegation into a standard Lucas exchange economy. In equilibrium, some investors trade on their own account, but others decide to delegate trading to professional fund managers. Flow-performance incentive functions describe how much capital clients provide to funds at each date as a function of past performance. Convex flow-performance relations imply that the average fund outperforms the market in recessions and underperforms in expansions. When the share of capital that is delegated is low, all funds follow the same strategy. However, when the equilibrium share of delegated capital is high, funds with identical incentives employ heterogeneous trading strategies. A group of managers borrows to take on a levered position on the stock. Thus, fund returns are dispersed in the cross-section and the outstanding amounts of borrowing and lending increase. The relation between the share of delegated capital and the Sharpe ratio typically follows an inverse U-shape pattern.

Keywords: Mutual funds, Hedge funds, Delegated portfolio management, Asset pricing

JEL Classification: G12, G23

Suggested Citation

Kaniel, Ron and Kondor, Peter, The Delegated Lucas-Tree (March 2012). AFA 2011 Denver Meetings Paper. Available at SSRN: or

Ron Kaniel

University of Rochester - Simon Business School ( email )

Rochester, NY 14627
United States


CEPR ( email )

United Kingdom

Peter Kondor (Contact Author)

London School of Economics & Political Science (LSE) ( email )

Houghton Street
London, WC2A 2AE
United Kingdom


Central European University (CEU) ( email )

Nador utca 9
Budapest, H-1051

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