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A Delegated Agent Asset-pricing model

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  • Roll, Richard W.
  • Cornell, Brad
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    Abstract

    Asset pricing theory has traditionally made predictions about risk and return, but has been silent on the actual process of investment. Today most investors delegate major investment decisions to financial professionals. This suggests that the instructions given by investors to their delegated agents and the compensation of those agents might be important determinants of capital market equilibrium. In the extreme when all investment decisions are delegated, the preferences and beliefs of individuals would be completely superseded by the objective functions of agent/managers. A provocative illustration of the difference between direct and delegated investing is provided based on active asset management relative to a benchmark index, a common objective function in practice. With the growing preponderance of delegated investing, future asset pricing theory will not only have to describe risk and return but, to be complete, must also be able to explain the observed objective functions used by professional managers.

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    Bibliographic Info

    Paper provided by Anderson Graduate School of Management, UCLA in its series University of California at Los Angeles, Anderson Graduate School of Management with number qt9f06903n.

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    Date of creation: 30 Jun 2004
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    Handle: RePEc:cdl:anderf:qt9f06903n

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    Keywords: asset pricing;

    References

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    1. Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-65, June.
    2. Nicholas Barberis & Richard Thaler, 2002. "A Survey of Behavioral Finance," NBER Working Papers 9222, National Bureau of Economic Research, Inc.
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    4. Paul A. Gompers & Andrew Metrick, . "Institutional Investors and Equity Prices," Rodney L. White Center for Financial Research Working Papers 20-99, Wharton School Rodney L. White Center for Financial Research.
    5. Bhattacharya, Sudipto & Pfleiderer, Paul, 1985. "Delegated portfolio management," Journal of Economic Theory, Elsevier, vol. 36(1), pages 1-25, June.
    6. MacKinlay, A. Craig, 1995. "Multifactor models do not explain deviations from the CAPM," Journal of Financial Economics, Elsevier, vol. 38(1), pages 3-28, May.
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    8. Eitan Goldman & Steve L. Slezak, 2003. "Delegated Portfolio Management and Rational Prolonged Mispricing," Journal of Finance, American Finance Association, vol. 58(1), pages 283-311, 02.
    9. Banz, Rolf W., 1981. "The relationship between return and market value of common stocks," Journal of Financial Economics, Elsevier, vol. 9(1), pages 3-18, March.
    10. Grossman, Sanford J & Stiglitz, Joseph E, 1980. "On the Impossibility of Informationally Efficient Markets," American Economic Review, American Economic Association, vol. 70(3), pages 393-408, June.
    11. Admati, Anat R & Pfleiderer, Paul, 1997. "Does It All Add Up? Benchmarks and the Compensation of Active Portfolio Managers," The Journal of Business, University of Chicago Press, vol. 70(3), pages 323-50, July.
    12. Basu, S, 1977. "Investment Performance of Common Stocks in Relation to Their Price-Earnings Ratios: A Test of the Efficient Market Hypothesis," Journal of Finance, American Finance Association, vol. 32(3), pages 663-82, June.
    13. Grossman, Sanford J & Shiller, Robert J, 1981. "The Determinants of the Variability of Stock Market Prices," American Economic Review, American Economic Association, vol. 71(2), pages 222-27, May.
    14. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
    15. Ross, Stephen A., 1976. "The arbitrage theory of capital asset pricing," Journal of Economic Theory, Elsevier, vol. 13(3), pages 341-360, December.
    16. Franklin Allen, 2001. "Do Financial Institutions Matter?," Center for Financial Institutions Working Papers 01-04, Wharton School Center for Financial Institutions, University of Pennsylvania.
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    Cited by:
    1. Giambona, Erasmo & Golec, Joseph, 2009. "Mutual fund volatility timing and management fees," Journal of Banking & Finance, Elsevier, vol. 33(4), pages 589-599, April.

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