Financial equilibrium with career concerns

Andrea Prat () and Amil Dasgupta ()
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Andrea Prat: LSE
Amil Dasgupta: LSE

Theoretical Economics, 2006, vol. 1, issue 1, pages 67-93

Abstract: What are the equilibrium features of a financial market where a sizeable proportion of traders face reputational concerns? This question is central to our understanding of financial markets, which are increasingly dominated by institutional investors. We construct a model of delegated portfolio management that captures key features of the US mutual fund industry and embed it in an asset pricing framework. We thus provide a formal model of financial equilibrium with career concerned agents. Fund managers differ in their ability to understand market fundamentals, and in every period investors choose a fund. In equilibrium, the presence of career concerns induces uninformed fund managers to churn, i.e., to engage in trading even when they face a negative expected return. Churners act as noise traders and enhance the level of trading volume. The equilibrium relationship between fund return and net fund flows displays a skewed shape that is consistent with stylized facts. The robustness of our core results is probed from several angles.

Keywords: Career concerns; financial equilibrium; trade volume (search for similar items in EconPapers)
JEL-codes: G0 C7 (search for similar items in EconPapers)
Date: 2006 Written 2006-03-02
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