Management compensation and market timing under portfolio constraints
Journal article, Peer reviewed
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This paper shows that portfolio constraints have important implications for manage- ment compensation and performance evaluation. In particular, in the presence of portfolio constraints, allowing for benchmarking can be bene cial. Benchmark design arises as an al- ternative e¤ort inducement mechanism vis-a-vis relaxing portfolio constraints. Numerically, we solve jointly for the manager s linear incentive fee and the optimal benchmark. The size of the incentive fee and the risk adjustment in the benchmark composition are increasing in the investor s risk tolerance and the manager s ability to acquire and process private information.
This is the authors’ final, accepted and refereed manuscript to the article