Fund Flows Inducing Mispricing of Risk in Competitive Financial Markets

39 Pages Posted: 28 Nov 2015

See all articles by Axel Stahmer

Axel Stahmer

ESMT European School of Management and Technology; Harvard University; Humboldt University of Berlin - School of Business and Economics

Date Written: November 27, 2015

Abstract

This paper studies the effect of new fund flows on investment behavior and the resulting equilibrium price of risk. The Small Fund Industry model shows equilibria with overinvestment in unprofitable and underinvestment in profitable investment opportunities. The Large Fund Industry model derives market prices for risk and analyzes the resulting price distortions in equilibrium. New flow of funds to the asset management industry lead to inefficient investment decisions, mispricing of risk, and distortion of market implied probabilities. Furthermore, the paper provides an explanation for partial market failure and trade among identical asset managers without assuming heterogeneous beliefs.

Keywords: Asset pricing, mutual funds, flow of funds, mispricing, misallocation of capital, overinvestment, underinvestment, investment decision, implied probabilites

JEL Classification: D53, D80, G01, G02, G11, G12, G20

Suggested Citation

Stahmer, Axel, Fund Flows Inducing Mispricing of Risk in Competitive Financial Markets (November 27, 2015). ESMT Working Paper No. 15-04. Available at SSRN: https://ssrn.com/abstract=2696070 or http://dx.doi.org/10.2139/ssrn.2696070

Harvard University ( email )

1875 Cambridge Street
Cambridge, MA 02138
United States

Humboldt University of Berlin - School of Business and Economics ( email )

Spandauer Str. 1
Berlin, D-10099
Germany

HOME PAGE: http://https://bdpems.wiwi.hu-berlin.de/portal/users/axel-stahmer

Register to save articles to
your library

Register

Paper statistics

Downloads
93
rank
271,832
Abstract Views
729
PlumX Metrics