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Fund managers - Why the best might be the worst: On the evolutionary vigor of risk-seeking behavior

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  • Witte, Björn-Christopher

Abstract

This article explores the influence of competitive conditions on the evolutionary fitness of risk preferences, using the professional competition between fund managers as a practical example. To explore how different settings of competition parameters, the exclusion rate and the exclusion interval, affect individual investment behavior, an evolutionary model is developed. Using a simple genetic algorithm, two attributes of virtual fund managers evolve: the amount of capital they invest in risky assets and the amount of excessive risk they accept, where a positive value of the latter parameter indicates an inefficient investment portfolio. The simulation experiments illustrate that the influence of competitive conditions on investment behavior and attitudes towards risk is significant. What is alarming is that intense competitive pressure generates risk-seeking behavior and diminishes the predominance of the most skilled. Under these conditions, evolution does not necessarily select managers with efficient portfolios. These results underline the institutional need to create a competitive framework that will not allow risk-taking to constitute an evolutionary advantage per se.

Suggested Citation

  • Witte, Björn-Christopher, 2012. "Fund managers - Why the best might be the worst: On the evolutionary vigor of risk-seeking behavior," Economics Discussion Papers 2012-20, Kiel Institute for the World Economy (IfW).
  • Handle: RePEc:zbw:ifwedp:201220
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    More about this item

    Keywords

    Risk preferences; competition; genetic programming; fund managers; portfolio theory;

    JEL classification:

    • C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage

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