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Strategic Asset Allocation in Money Management

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  • Basak, Suleyman
  • Makarov, Dmitry

Abstract

Money managers behave strategically when competing for fund flows within relatively small groups. We study strategic interaction between two risk-averse managers in continuous time, characterizing analytically their unique equilibrium dynamic investments. Driven by chasing and contrarian mechanisms when one is well ahead, they gamble in the opposite direction when their performances are close. We also discuss multiple and mixed-strategy equilibria. Equilibrium policy of each crucially depends on the opponent’s risk attitude. Hence, client investors, concerned about how a strategic manager may trade on their behalf, should also learn competitors’ characteristics--as against non-strategic settings, where knowing a manager’s own characteristics suffices to determine behavior.

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Bibliographic Info

Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8457.

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Date of creation: Jun 2011
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Handle: RePEc:cpr:ceprdp:8457

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Keywords: fund flows; incentives; Money Managers; portfolio choice; relative performance; risk shifting; strategic interactions; tournaments;

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References

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  1. Jennifer Carpenter, 1999. "Does Option Compensation Increase Managerial Risk Appetite?," New York University, Leonard N. Stern School Finance Department Working Paper Seires, New York University, Leonard N. Stern School of Business- 99-076, New York University, Leonard N. Stern School of Business-.
  2. Guercio, Diane Del & Tkac, Paula A., 2008. "Star Power: The Effect of Monrningstar Ratings on Mutual Fund Flow," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 43(04), pages 907-936, December.
  3. Baye, Michael R & Tian, Guoqiang & Zhou, Jianxin, 1993. "Characterizations of the Existence of Equilibria in Games with Discontinuous and Non-quasiconcave Payoffs," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 60(4), pages 935-48, October.
  4. Suleyman Basak & Anna Pavlova & Alexander Shapiro, 2007. "Optimal Asset Allocation and Risk Shifting in Money Management," Review of Financial Studies, Society for Financial Studies, vol. 20(5), pages 1583-1621, 2007 21.
  5. Jules H. van Binsbergen & Michael W. Brandt & Ralph S.J. Koijen, 2006. "Optimal Decentralized Investment Management," NBER Working Papers 12144, National Bureau of Economic Research, Inc.
  6. Jérôme B. Detemple & René Garcia & Marcel Rindisbacher, 2000. "A Monte-Carlo Method for Optimal Portfolios," CIRANO Working Papers 2000s-05, CIRANO.
  7. Alexander Kempf & Stefan Ruenzi, 2008. "Tournaments in Mutual-Fund Families," Review of Financial Studies, Society for Financial Studies, vol. 21(2), pages 1013-1036, April.
  8. Palomino, Frederic, 2005. "Relative performance objectives in financial markets," Journal of Financial Intermediation, Elsevier, Elsevier, vol. 14(3), pages 351-375, July.
  9. Loranth Gyongyi & Sciubba Emanuela, 2006. "Relative Performance, Risk and Entry in the Mutual Fund Industry," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 6(1), pages 1-28, September.
  10. Jaksa Cvitanic & Levon Goukasian & Fernando Zapatero, 2000. "Monte Carlo Valuation of Optimal Portfolios in Complete Markets," Econometric Society World Congress 2000 Contributed Papers 1246, Econometric Society.
  11. Anand M. Goel & Anjan V. Thakor, 2005. "Green with Envy: Implications for Corporate Investment Distortions," The Journal of Business, University of Chicago Press, vol. 78(6), pages 2255-2288, November.
  12. Goriaev, A.P. & Palomino, F.A. & Prat, A., 2000. "Mutual Fund Tournament: Risk Taking Incentives Induced by Ranking Objectives," Discussion Paper, Tilburg University, Center for Economic Research 2000-94, Tilburg University, Center for Economic Research.
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Cited by:
  1. Basak, Suleyman & Makarov, Dmitry, 2010. "Difference in Interim Performance and Risk Taking with Short-Sale Constraints," CEPR Discussion Papers, C.E.P.R. Discussion Papers 8072, C.E.P.R. Discussion Papers.
  2. Castaneda, Pablo & Rudolph, Heinz P., 2011. "Upgrading investment regulations in second pillar pension systems : a proposal for Colombia," Policy Research Working Paper Series 5775, The World Bank.
  3. Kaniel, Ron & Kondor, Péter, 2011. "The delegated Lucas tree," CEPR Discussion Papers, C.E.P.R. Discussion Papers 8578, C.E.P.R. Discussion Papers.
  4. Han Feng & David Hobson, 2013. "Gambling in contests with regret," Papers 1301.0719, arXiv.org.

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