Is There Too Much Benchmarking in Asset Management?

The Benchmark Inclusion Subsidy

“…This literature considers pure exchange economies and focuses on asset prices, while ours is a production economy, in which we study the effects of benchmarking on investment and other corporate decisions. Kashyap, Kovrijnykh, Li, and Pavlova (2020) study the design of optimal (linear) contracts for portfolio managers and the resulting welfare implications. In contrast, this paper takes the contracts as exogenous and looks at their implications for corporate decisions.…”

“…If the contract parameters a and b were endogenous, chosen optimally by fund managers, then a and b in (16) would implicitly depend on λ M . In a companion paper (Kashyap, Kovrijnykh, Li, and Pavlova, 2020), we analyze optimal contracts chosen by fund managers in a similar environment. Deriving analytical results for the contract parameters as a function of λ M is difficult in general, so we study the relationship numerically, and show that the benchmark inclusion subsidy is increasing in λ M even if a and b are endogenously determined.…”