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Fund managers’ contracts and short-termism

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  • Casamatta, Catherine
  • Pouget, Sébastien

Abstract

This paper considers the problem faced by long-term investors who have to delegate the management of their money to professional fund managers. Investors can earn profits if fund managers collect long-term information. We investigate to what extent the delegation of fund management prevents long-term information acquisition, inducing short-termism in financial markets. We also study the design of long-term fund managers’ compensation contracts. Under moral hazard, fund managers’ compensation optimally depends on both short-term and longterm fund performance. Short-term performance is determined by price efficiency, and thus by subsequent fund managers’ information acquisition decisions. These managers are less likely to be active on the market if information has already been acquired initially, giving rise to a feedback effect. The consequences are twofold: First, short-termism emerges. Second, short-term compensation for fund managers depends in a non-monotonic way on long-term information precision. We derive predictions regarding fund managers’ contracts and financial markets efficiency.

Suggested Citation

  • Casamatta, Catherine & Pouget, Sébastien, 2009. "Fund managers’ contracts and short-termism," TSE Working Papers 09-042, Toulouse School of Economics (TSE), revised Oct 2015.
  • Handle: RePEc:tse:wpaper:21930
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    4. Howard, Donald D. & English, Burton C. & Larson, James A. & Roberts, Roland K. & Walters, Jeremy T., 2004. "Effects Of Risk, Disease, And Nitrogen Source On Optimal Nitrogen Fertilization Rates In Winter Wheat Production," 2004 Annual Meeting, February 14-18, 2004, Tulsa, Oklahoma 34688, Southern Agricultural Economics Association.
    5. Merton, Robert C., 1971. "Optimum consumption and portfolio rules in a continuous-time model," Journal of Economic Theory, Elsevier, vol. 3(4), pages 373-413, December.
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