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An Equilibrium Model of Asset Pricing and Moral Hazard


  • Hui Ou-Yang


This article develops an integrated model of asset pricing and moral hazard. It is demonstrated that the expected dollar return of a stock is independent of managerial incentives and idiosyncratic risk, but the equilibrium price of the stock depends on them. Thus, the expected rate of return is affected by managerial incentives and idiosyncratic risk. It is shown, however, that managerial incentives and idiosyncratic risk affect the expected rate of return through their influence on systematic risk rather than serve as independent risk factors. It is also shown that the risk aversion of the principal in the model leads to less emphasis on relative performance evaluation than in a model with a risk-neutral principal. Copyright 2005, Oxford University Press.

Suggested Citation

  • Hui Ou-Yang, 2005. "An Equilibrium Model of Asset Pricing and Moral Hazard," Review of Financial Studies, Society for Financial Studies, vol. 18(4), pages 1253-1303.
  • Handle: RePEc:oup:rfinst:v:18:y:2005:i:4:p:1253-1303

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    Cited by:

    1. Thibaut Mastrolia & Dylan Possamaï, 2018. "Moral Hazard Under Ambiguity," Journal of Optimization Theory and Applications, Springer, vol. 179(2), pages 452-500, November.
    2. Nengjiu Ju & Xuhu Wan, 2012. "Optimal Compensation and Pay-Performance Sensitivity in a Continuous-Time Principal-Agent Model," Management Science, INFORMS, vol. 58(3), pages 641-657, March.
    3. Romuald Elie & Dylan Possamai, 2016. "Contracting theory with competitive interacting agents," Papers 1605.08099,
    4. Cvitanić, Jakša & Xing, Hao, 2018. "Asset pricing under optimal contracts," Journal of Economic Theory, Elsevier, vol. 173(C), pages 142-180.
    5. Hyeng Keun Koo & Gyoocheol Shim & Jaeyoung Sung, 2008. "Optimal Multi‐Agent Performance Measures For Team Contracts," Mathematical Finance, Wiley Blackwell, vol. 18(4), pages 649-667, October.
    6. Han, Bing & Wang, Winghai, 2005. "Institutional Investment Constraints and Stock Prices," Working Paper Series 2004-24, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
    7. Thibaut Mastrolia & Dylan Possamai, 2015. "Moral hazard under ambiguity," Papers 1511.03616,, revised Oct 2016.
    8. Gorton, Gary B. & He, Ping & Huang, Lixin, 2014. "Agency-based asset pricing," Journal of Economic Theory, Elsevier, vol. 149(C), pages 311-349.
    9. Dutta, Sunil & Nezlobin, Alexander, 2017. "Information disclosure, firm growth, and the cost of capital," Journal of Financial Economics, Elsevier, vol. 123(2), pages 415-431.
    10. Qi Zeng & Hae Won (Henny) Jung, 2014. "Optimal Contract, Ownership Structure and Asset Pricing," 2014 Meeting Papers 911, Society for Economic Dynamics.
    11. Thibaut Mastrolia & Dylan Possamaï, 0. "Moral Hazard Under Ambiguity," Journal of Optimization Theory and Applications, Springer, vol. 0, pages 1-49.
    12. Cvitanic, Jaksa & Lazrak, Ali & Wang, Tan, 2008. "Implications of the Sharpe ratio as a performance measure in multi-period settings," Journal of Economic Dynamics and Control, Elsevier, vol. 32(5), pages 1622-1649, May.
    13. Viral V. Acharya & Alberto Bisin, 2009. "Managerial hedging, equity ownership, and firm value," RAND Journal of Economics, RAND Corporation, vol. 40(1), pages 47-77, March.
    14. Amil Dasgupta & Andrea Prat & Michela Verardo, 2011. "Institutional Trade Persistence and Long‐Term Equity Returns," Journal of Finance, American Finance Association, vol. 66(2), pages 635-653, April.
    15. Gutiérrez Arnaiz, Óscar & Salas-Fumás, Vicente, 2008. "Performance standards and optimal incentives," Journal of Accounting and Economics, Elsevier, vol. 45(1), pages 139-152, March.
    16. Misumi, Takashi & Nakamura, Hisashi & Takaoka, Koichiro, 2014. "Moral-Hazard Premium," Working Paper Series G-1-7, Hitotsubashi University Center for Financial Research.
    17. Guido Maretto, 2017. "Diversification and Screening," FEUNL Working Paper Series wp610, Universidade Nova de Lisboa, Faculdade de Economia.
    18. Guido Maretto, 2011. "Contracts and Market: Risk Sharing with Hidden Types," Working Papers ECARES ECARES 2011-005, ULB -- Universite Libre de Bruxelles.
    19. Robert M. Gillenkirch & Achim Hendriks & Susanne A. Welker, 2014. "Effects of Executive Compensation Complexity on Investor Behaviour in an Experimental Stock Market," European Accounting Review, Taylor & Francis Journals, vol. 23(4), pages 625-645, December.

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