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Delegated Portfolio Management and Risk Taking Behavior

Author

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  • José Luiz Barros Fernandes
  • Juan Ignacio Peña
  • Benjamin Miranda Tabak

Abstract

Standard models of moral hazard predict a negative relationship between risk and incentives; however empirical studies on mutual funds present mixed results. In this paper, we propose a behavioral principal-agent model in the context of professional managers, focusing on active and passive investment strategies. Using this general framework, we evaluate how incentives affect the risk taking behavior of managers, using the standard moral hazard model as a special case; and solve the previous contradiction. Empirical evidence, based on a comprehensive world sample of 4584 mutual funds, gives support to our theoretical model.

Suggested Citation

  • José Luiz Barros Fernandes & Juan Ignacio Peña & Benjamin Miranda Tabak, 2009. "Delegated Portfolio Management and Risk Taking Behavior," Working Papers Series 199, Central Bank of Brazil, Research Department.
    • Handle: RePEc:bcb:wpaper:199
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    References listed on IDEAS

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    1. Kohei Daido & Hideshi Itoh, 2005. "The Pygmalion Effect: An Agency Model with Reference Dependent Preferences," CESifo Working Paper Series 1444, CESifo.
    2. Basak, Suleyman & Pavlova, Anna & Shapiro, Alex, 2003. "Offsetting the Incentives: Risk Shifting and Benefits of Benchmarking in Money Management," Working papers 4303-03, Massachusetts Institute of Technology (MIT), Sloan School of Management.
    3. Bandiera, Oriana & Barankay, Iwan & Rasul, Imran, 2004. "Relative and Absolute Incentives: Evidence on Worker Productivity," CEPR Discussion Papers 4431, C.E.P.R. Discussion Papers.
    4. Araujo, Aloisio & Moreira, Humberto & Tsuchida, Marcos, 2007. "The Trade-Off Between Incentives and Endogenous Risk," Brazilian Review of Econometrics, Sociedade Brasileira de Econometria - SBE, vol. 27(2), November.
    5. Bank for International Settlements, 2003. "Incentive structures in institutional asset management and their implications for financial markets," CGFS Papers, Bank for International Settlements, number 21, October –.
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