EconPapers    
Economics at your fingertips  
 

The Benchmark Inclusion Subsidy

Anil K Kashyap, Natalia Kovrijnykh, Jian Li and Anna Pavlova

No 13356, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We study the impact of evaluating the performance of asset managers relative to a benchmark portfolio on firms' investment, merger and IPO decisions. We introduce asset managers into an otherwise standard asset pricing model and show that firms that are part of the benchmark are effectively subsidized by the asset managers. This "benchmark inclusion subsidy" arises because asset managers have incentives to hold some of the equity of firms in the benchmark regardless of the risk characteristics of these firms. Contrary to what is usually taught in corporate finance, we show that the value of an investment project is not governed solely by its own cash-flow risk. Instead, because of the benchmark inclusion subsidy, a firm inside the benchmark would accept some projects that an identical one outside the benchmark would decline. The two types of firms' incentives to undertake mergers or spinoffs also differ and the presence of the subsidy can alter a decision to take a firm public. We show that the higher the cash-flow risk of an investment, the larger the benchmark inclusion subsidy; the subsidy is zero for safe projects. Benchmarking also leads fundamental firm-level cash-flow correlations to rise. We review a host of empirical evidence that is consistent with the implications of the model.

Keywords: asset management; Benchmark; Index; investment; mergers; Project Valuation (search for similar items in EconPapers)
JEL-codes: G11 G12 G23 G32 G34 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cdm, nep-cfn, nep-ppm and nep-rmg
Date: 2018-12
References: View references in EconPapers View complete reference list from CitEc
Citations: Track citations by RSS feed

Downloads: (external link)
http://www.cepr.org/active/publications/discussion_papers/dp.php?dpno=13356 (application/pdf)
CEPR Discussion Papers are free to download for our researchers, subscribers and members. If you fall into one of these categories but have trouble downloading our papers, please contact us at subscribers@cepr.org

Related works:
Working Paper: The Benchmark Inclusion Subsidy (2018) Downloads
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:cpr:ceprdp:13356

Ordering information: This working paper can be ordered from
http://www.cepr.org/ ... rs/dp.php?dpno=13356

Access Statistics for this paper

More papers in CEPR Discussion Papers from C.E.P.R. Discussion Papers Centre for Economic Policy Research, 33 Great Sutton Street, London EC1V 0DX.
Bibliographic data for series maintained by ().

 
Page updated 2019-04-06
Handle: RePEc:cpr:ceprdp:13356