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Noise Trading, Delegated Portfolio Management, and Economic Welfare

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  • Dow, James
  • Gorton, Gary

Abstract

The authors consider a model of the stock market with delegated portfolio management. Portfolio managers try, but sometimes fail, to discover profitable trading opportunities. Although it is best not to trade in this case, their clients cannot distinguish 'actively doing nothing,' in this sense, from 'simply doing nothing.' The authors show that some portfolio managers trade even though they have no reason to prefer one asset to another (noise trade); the amount of such noise trade can be large compared to the amount of hedging volume; and, perhaps surprisingly, noise trade may be Pareto improving. Copyright 1997 by the University of Chicago.

Suggested Citation

  • Dow, James & Gorton, Gary, 1997. "Noise Trading, Delegated Portfolio Management, and Economic Welfare," Journal of Political Economy, University of Chicago Press, vol. 105(5), pages 1024-1050, October.
    • Handle: RePEc:ucp:jpolec:v:105:y:1997:i:5:p:1024-50
    DOI: 10.1086/262103
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    References listed on IDEAS

    as
    1. Marco Pagano, 1989. "Endogenous Market Thinness and Stock Price Volatility," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 56(2), pages 269-287.
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    5. De Long, J Bradford & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, 1990. "Noise Trader Risk in Financial Markets," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 703-738, August.
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    12. Bengt Holmstrom, 1999. "Managerial Incentive Problems: A Dynamic Perspective," NBER Working Papers 6875, National Bureau of Economic Research, Inc.
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    More about this item

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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