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Asset Management Contracts and Equilibrium PricesAndrea M. BuffaBoston University Dimitri VayanosLondon School of Economics; Center for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER) Paul WoolleyLondon School of Economics September 2014 Boston U. School of Management Research Paper No. 2492529 Abstract: We study the joint determination of fund managers' contracts and equilibrium asset prices. Because of agency frictions, investors make managers' fees more sensitive to performance and benchmark performance against a market index. This makes managers unwilling to deviate from the index and exacerbates price distortions. Because trading against overvaluation exposes managers to greater risk of deviating from the index than trading against undervaluation, agency frictions bias the aggregate market upwards. They can also generate a negative relationship between risk and return because they raise the volatility of overvalued assets. Socially optimal contracts provide steeper performance incentives and cause larger pricing distortions than privately optimal contracts.
Number of Pages in PDF File: 64 JEL Classification: D53, D86, G12 Date posted: September 8, 2014 ; Last revised: October 5, 2014Suggested CitationContact Information
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