Pricing Errors as Positive Alpha

30 Pages Posted: 5 Jan 2019 Last revised: 5 Dec 2019

See all articles by Ali Kakhbod

Ali Kakhbod

Massachusetts Institute of Technology (MIT) - Department of Economics

Maziar Kazemi

Massachusetts Institute of Technology (MIT)

Date Written: April 1, 2019

Abstract

We consider a simple equilibrium model of active fund managers and consumers. Our model features zero net-of-fee alpha in equilibrium. However, using a common, but misspecified, model for the stochastic discount factor (SDF) implies positive measured alpha. This note, thus, warns against interpreting pricing errors as alpha: That is only true if the SDF is correctly specified. Our model is tractable enough to provide closed form solutions for all quantities of interest.

Keywords: Active Management, Negative Performance Puzzle, Pricing Kernel

JEL Classification: G23, G21, G11

Suggested Citation

Kakhbod, Ali and Kazemi, Maziar, Pricing Errors as Positive Alpha (April 1, 2019). Available at SSRN: https://ssrn.com/abstract=3304762 or http://dx.doi.org/10.2139/ssrn.3304762

Ali Kakhbod

Massachusetts Institute of Technology (MIT) - Department of Economics ( email )

77 Massachusetts Avenue
50 Memorial Drive
Cambridge, MA 02139-4307
United States

Maziar Kazemi (Contact Author)

Massachusetts Institute of Technology (MIT) ( email )

77 Massachusetts Avenue
50 Memorial Drive
Cambridge, MA 02139-4307
United States

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