...Asset Management Contracts and Equilibrium Prices ANDREA M. BUFFA Boston University DIMITRI VAYANOS London School of Economics, CEPR and NBER PAUL WOOLLEY London School of Economics September 13, 2014∗ Abstract We study the joint determination of fund managers’ contracts and equilibrium asset prices. Because of agency frictions, investors make managers’ fees more sensitive to performance and benchmark performance against a market index. This makes managers unwilling to deviate from the index and exacerbates price distortions. Because trading against overvaluation exposes managers to greater risk of deviating from the index than trading against undervaluation, agency frictions bias the aggregate market upwards. They can also generate a negative relationship between risk and return because they raise the volatility of overvalued assets. Socially optimal contracts provide steeper performance incentives and cause larger pricing distortions than privately optimal contracts. buffa@bu.edu, d.vayanos@lse.ac.uk, p.k.woolley@lse.ac.uk. We thank Sergey Chernenko, Chris Darnell, Peter DeMarzo, Ken French, Jeremy Grantham, Zhiguo He, Ron Kaniel, seminar participants at Bocconi, Boston University, CEU, Cheung Kong, Dartmouth, LSE, Maryland, Stanford, and conference participants at AEA, BIS, CRETE, ESSFM Gerzenzee, FRIC, Jackson Hole, and LSE PWC for helpful comments. ∗ 1 Introduction Asset management is a large and growing industry. For example, individual investors...
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...Questions 1 As seen from the excel sheet we conclude that the NVP for Project 1 results in negative amounts, as a result we do not choose project 1. As for project 2 amongst the two options we will choose Project two with DR at 10% as it yields a higher NVP value. Question 2 a) What is the equilibrium price and quantity of fertilizer in an unregulated, competitive market? 6 tons per day b) What is the efficient quantity of fertilizer? 4 tons per day c) Suppose government imposes a tax equal to the marginal external cost. What is the equilibrium price paid by consumers and the equilibrium quantity after implementation of the tax? Consumers will pay $1,200 per ton, and the efficient level of output at 4 tons per day will be achieved. d) At the output level in part (6), how much is the tax per one ton? $1200 - $800 = $400 e) How much tax revenue does government collect? $400 per ton x 4 tons per day = $1,600 per day f) What is the deadweight loss borne by society if the externality is left uncorrected? (6-4)x(1,600-1,000)/2 = $600 Question 3 a) According to Coase theorem it doesn’t matter who builds the fence as long as it is less than the cost of the crop damage. However, to answer the question; the rancher builds the fence, because the cost of the fence ($100) is less than the cost of compensating the farmer for crop damage. Together, the rancher and the farmer are $200 better off ($300 crop damage less $100...
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...Risk in Housing Markets: An Equilibrium Approach⇤ Aurel Hizmo† NYU Stern January 30, 2012 Abstract Homeowners are overexposed to city-specific house price risk and income risks, which may be very di cult to insure against using standard financial instruments. This paper develops a micro-founded equilibrium model that transparently shows how this local uninsurable risk a↵ects individual location decisions and portfolio choices, and ultimately how it a↵ects prices in equilibrium. I estimate a version of this model using house price and wage data and provide estimates for risk premia for di↵erent cities, which imply that homes are on average about $20000 cheaper than they would be if owners were risk-neutral. This estimate is over $100000 for volatile coastal cities. Next, I simulate the model to study the e↵ects of financial innovation on equilibrium outcomes. Creating assets that hedge city-specific risks increases house prices by about 20% and productivity by about 10%. The average willingness to pay for completing the market per homeowner is between $10000 and $20000. Welfare gains come both from better risk-sharing and from more e cient sorting of households across cities. ⇤ I am deeply grateful to Patrick Bayer, Andrew Patton, and Peter Arcidiacono for their encouragement and support. I also thank Robert McMillan, Tim Bollerslev, Vish Viswanathan, Chris Timmins, Jimmy Roberts and the seminar participants at Duke Finance, the ERID Conference at Duke, Fed Board, NYU Stern...
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...Market Equilibration Process Jeremiah D. Wood ECO/561 April 19, 2014 Professor John Lindvall Market Equilibration Process Economic equilibrium is defined as a condition or state in which the economic forces are at a balance. In this particular discussion, one will discuss equilibration, the process of moving between two different points that is affected by a change in demand or supply. One will cover how a specific world event, Hurricane Katrina, caused home prices in Baton Rouge, Louisiana to fluctuate between two equilibrium states. Also to be covered is how the process of said movement occurred using the behaviors of both supply firms and consumers. In the late summer of 2005, Hurricane Katrina bared down on the City of New Orleans and the surrounding areas. This storm caused a surge that caused the storm levees to break that in turn, flooded the City of New Orleans and took most of the city’s housing with it. Because of the destruction, about two hundred and fifty thousand people were relocated to nearby Baton Rouge, making it the largest city in Louisiana. Let us start the discussion by stating that the average price of a single-family home in Baton Rouge before Katrina was one hundred thirty thousand dollars, shown by point A on the graph (O'Sullivan & Sheffrin, 2002). With the explosion of the population, the average price jumped to one hundred and fifty six thousand dollars within six months, point B, and the market shrunk from three thousand six hundred...
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...The theory of market equilibrium states that market forces tend toward a balance, or equilibrium, of price and quantity, unless an outside source intervenes to disrupt the balance (University of Phoenix, 2010). The product I will be discussing is the Apple iPhone and how it reaches its market equilibrium. Apple goes through three phases when releasing inventory to stores (through personal experience.) The first phase is to release a lot of inventory on the day of release. The second phase is slowly release inventory to keep demand up. The third phase is release enough inventory so that all stores have supplies readily available. By being strategic with the quantity of iPhones released Apple set their own market equilibrium. Demand is a schedule that shows the various amounts of a product that consumers are willing and able to buy at each specific price in a series of possible prices during a specified time period (McConnell, Brue, & Flynn, 2009). This demand on a product is greatly affected by supply, which is a schedule that shows amounts of a product a producer is willing and able to produce and sell at each specific price in a series of possible prices during a specified time period (McConnell, Brue, & Flynn, 2009). When the iPhone first releases every Apple and AT&T store receive very large amounts of inventory. Most of the customers waiting at the stores will get an iPhone, however, those that did not wait before stores hourse usually will not get a phone. The reason...
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...time dimension of an interest rate). Roman Alphabet a Amount invested in the risky asset; in Chapter 14, fraction of wealth invested in the risky asset or portfolio AT Transpose of the matrix (or vector)A c Consumption; in Chapter 14 only, consumption is represented by C, while c represents ln C ck Consumption of agent k in state of nature θ θ CE Certainty equivalent CA Price of an American call option CE Price of a European call option d Dividend rate or amount ∆ Number of shares in the replicating portfolio (Chapter xx E The expectations operator ek Endowment of agent k in state of nature θ θ f Futures position (Chapter 16); pf Price of a futures contract (Chapter 16) F, G Cumulative distribution functions associated with densities: f, g Probability density functions K The strike or exercise price of an option K(˜) Kurtosis of the random variable x x ˜ L A lottery L Lagrangian m Pricing kernel M The market portfolio k M Uθ Marginal utility of agent k in state θ p Price of an arbitrary asset P Measure of Absolute Prudence q Arrow-Debreu price qb Price of risk-free discount bond, occasionally denoted prf e q Price of equity rf Rate of return on a risk-free asset Rf Gross rate of return on a risk-free asset r ˜ Rate of return on a risky asset ˜ R Gross...
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...contended, however, that the management scientists were proposing changes with insufficient regard for relevance, timeliness, acceptance, or implementation (Zand, 1975). Identifying the Characteristics of Effective Organizational Change Psychologist Kurt Lewin theory on organizational change conceptualized the present condition or level of activity of a system as a dynamic social equilibrium, that is a state of balance maintained by active driving and resisting social forces. Change then consisted of altering the driving and resisting forces thereby facilitating the movement of the system to a new level of equilibrium (Zand, 1975). Lewin conceptualized change as a process with three phases: (1) unfreezing—behavior that increases the receptivity of the client system to a possible change in the distribution and balance of social forces; (2) moving—altering the magnitude, direction, or number of driving and resisting forces, consequently shifting the equilibrium to a new level; and (3) refreezing—reinforcing the new distribution of forces, thereby maintaining and stabilizing the new social equilibrium. Lewin also suggested that although common sense might lean toward increasing driving forces to induce change, in many instances this might arouse an equal and opposite increase in resisting forces, the net effect being no change and greater tension than before (Spector, 2010). The Situation at Asda...
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...Tournaments and Piece Rates Revisited: A Theoretical and Experimental Study of Premium Incentives Werner Guth Rene Levnsky Kerstin Pully Ori Weiselz June 22, 2010 Abstract Tournaments represent an increasingly important component of organizational compensation systems. While prior research focused on xed-prize tournaments, i.e., on tournaments where the prize or prize sum to be awarded is set in advance, we introduce a new type of tournament into the literature: premium incentives. While premium incentives, just like xed-prize tournaments, are based on relative performance, the prize to be awarded is not set in advance but is a function of the rm's success: the prize is high if the rm is successful and low if it is not successful. Relying on a simple model of cost minimization, we are able to show that premium incentives outperform xed-prize tournaments as well as piece rates. Our theoretical result is qualitatively con rmed by a controlled laboratory experiment and has important practical implications for the design of organizational incentive systems. JEL Classi cation: C72, C91, J33 Keywords: Tournaments, Incentives, Economic experiments Max Planck Institute for Economics, Kahlaische Strasse 10, 07745 Jena, Germany. yEberhard Karls Universitat Tubingen, Faculty of Economics and Business Administration, Nauklerstrasse 47, 72074 Tubingen, Germany. zThe Hebrew University, Center for the Study of Rationality, Giv'at Ram, Jerusalem 91904, Israel...
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...Market Equilibrating Process Student Name ECO/561 Date Peter Oburu Market Equilibrating Process Market equilibrium is defined as a state where the quantity supplied matches the quantity demanded (McConnell, Brue, & Flynn, 2009). In case where there is lack of equilibrium a business can be have a surplus or the buyers could face a shortage. The process in which the market adjust to the demands of market buyers and supply of market sellers is know n as the market equilibrating process. If the market price of a good or service is set above market equilibrium price, the demand will be less than the supply and the net effect will be a surplus. On the other hand, the market price of a good or service is set below the market equilibrium price, the demand will be greater than the quantity supplied and the net effect will be a shortage. For a business either of these scenarios can be detrimental, therefore it is very important that a business owner set their price at the market equilibrium, which is the ideal price for both business (suppliers) and the consumers. This paper provides an example of how the market equilibrating process works for a martini lounge. The paper proceeds as follows; first we describe ... then we highlight ... and finally we conclude that ... As the owner of a restaurant, I have to pay very close attention to pricing in an effort to ensure a steady flow of customers and to build profitability. The type of restaurant I own can be classified and...
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...CAE 3 a) As we have to find the market equilibrium we must equal both functions. P=500-0’1QD P=500-0’1QD P=50+0’05QS 500=0’1QD 500-0’1Q=50+0’05Q Q= 500/0’1 -3/20Q= -450 QD=5000 Q=-450/(-3/20); QE=3000 P=500-0’1·3000 PE=200 (Graphically represented in the end) b) ԐPD=-(P/Q)· Variation ԐPD=-200/3000· (-10) ԐPD=2/3 ԐPS=-(P/Q)· Variation ԐPS=-200/3000· (-20) ԐPS=4/3 c) The first situation the government proposes is to fix a Price floor of 100€. Todos los derechos reservados Unybook Worldwide S.L. © unybook.com P=500-0’1QD P=50+0’05QS 100=500-0’1QD 100=50+0’05QS -400/-0’1=QD 50/0’05=QS QD=4000 QS=1000 QD-QS=4000-1000=3000 so it’s a shortage. The next situation the government proposes is to fix a Price floor of 300€. P=500-0’1QD P=50+0’05QS 300=500-0’1QD 300=50+0’05QS -200/-0’1=QD 250/0’05=QS QD=2000 QS=5000 QD-QS=2000-5000=-3000 so it’s a surplus. The next situation the government proposes is to fix a Price ceiling of 100€. P=500-0’1QD P=50+0’05QS 100=500-0’1QD 100=50+0’05QS -400/-0’1=QD 50/0’05=QS QD=4000 QS=1000 QD-QS=4000-1000=3000 so it’s a surplus. The next situation the government proposes is to fix a Price ceiling of 300€. P=500-0’1QD P=50+0’05QS 300=500-0’1QD 300=50+0’05QS -200/-0’1=QD 250/0’05=QS QD=2000 QS=5000 QD-QS=2000-5000=-3000 so it’s a shortage. Todos los derechos reservados Unybook Worldwide S.L. © unybook.com ...
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... respectively. The current long-run equilibrium price is $30 per barrel and the equilibrium quantity is 16.88 billion barrels per year. a. Derive the (linear) long-run demand and supply equations. b. Suppose the long-run supply curve you derived above consists of competitive supply plus the quantity of OPEC supply. If the long-run competitive supply (not including OPEC’s production) is: QS = 7.78 + 0.29p, What must be OPECʹs level of production in this long-run equilibrium to maintain the price of $30? Ed= -0.906 Es= 0.515 Equilibrium: Price = $30 per barrel, Quantity= 16.88 billion barrels per year. a. Derive the (linear) long-run demand and supply equations. Q=a+bP P= (Q-a)/P Supply: Es=dQ/dP * P/Q .515= dQ/dP *30/16.88 dQ/dP=Es*Q/P = .515 *16.88/30 = 0.2898 -> b= 0.2898 Q= a+bP -> 16.88=a+0.2898*30 a=16.88-0.2898*30 -> a= 8.186 Linear long run supply equation: Q= 8.186+0.2898P Demand: Ed=dQ/dP * P/Q -0.906= dQ/dP *30/16.88 dQ/dP=Ed*Q/P = -0.906 *16.88/30 = 0.2898 -> b= -0.5089 Q= a+bP -> 16.88=a-0.5089*30 a=16.88+0.5089*30 -> a= 32.147 Linear long run demand equation: Q= 32.147-0.5089P b. Suppose the long-run supply curve you derived above consists of competitive supply plus the quantity of OPEC supply. If the long-run competitive supply (not including OPEC’s production) is: QS = 7.78 + 0.29p, What must be OPECʹs level of production in this long-run equilibrium to maintain the price of $30? Qs(without OPEC)= 7.78+.29*30...
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...November 18, 2013 Alfred Igbodipe The market equilibrating process is a method most manufacturers use to maintain a balance between supply and demand that leads to price equilibrium. This means manufacturers have taken into account their planning strategies and forecasting which, eventually leads them to maximizing profit for each unit sold that still matches what consumers are willing to pay for an item at a particular point. This whole process is what leads us to toward price equilibrium. In this age of technology, exploring the decline in the price of music is something that has influenced the entire music industry and has made them find other streams of revenue that will help the industry stay alive. Let us explore what happened and how the market equilibration process has changed over time in the music industry. In the 90s a dramatic change to the music industry happened where music was beginning to be made digitally and these songs could be saved to hard drives and emailed to anyone at any time with no change in the quality. At that time the market equilibrium price was around $14 per album and single song sales was non-existent. Fast forward to the present time, album sales are still constant and usually sell for $10 max, but most of the revenue in the music industry is single driven and the price points are constant at no more then $1.29. Having worked in the music industry for over 15 years, change is an understatement when it concerns generating revenue....
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...Price ceilings are government mandated maximum selling prices in order to make items more attainable. It can have a negative effect on the economy if not regulated to keep up with a changing market and tends to throttle a free market system. In a perfect market, prices will balance themselves. Ceiling price on bread lead to long lines, high costs in lost work hours, and binding prices for sellers. As an individual is required to wait in line for an hour, there is an hour of work cut into total revenue for the business or firm. Suppliers are guaranteed a loss in the benefit of selling a certain buyer within the period. If the business hires more employees to reduce wait time, they may not be able to achieve maximization of profits due to pay out excess payroll without sufficient benefit from increased staffing. Labor expenses must be within a balanced budget in order to maintain financial stability. This is the textbook example of actions corresponding to a true market, which in practice is fictional in the real world. If the supplier manages to lessen lost time in producing a profit, they can successfully reach a point of beneficial profit maximization. Dealing with profit maximization, an individual can reach it only by entering the market while marginal costs are greater than average revenue; creating a larger total surplus. Profit will be dependent on total revenue, which is the amount of money generated from a product minus the total cost; the amount of money required...
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...ECO502/EE698A ECO502/EE698A - Assignment #2 Due 18.1.12 1. Consider the following model of price competition. Two firms set prices in a market whose demand curve is given by the equation Q=6−p where p is the lower of the two prices. If firm 1 is the lower priced firm, then it is firm 1 that meets all of the demand; conversely, the same applies to firm 2 if it is the lower priced firm. In case they post the same price they each get half the market. Prices can only be quoted in dollar units, such as 0, 1, 2, 3, 4, 5, or 6 dollars. Suppose, furthermore, that costs of production are zero for both firms, and each firm aims to maximize its own profits. (a) Write down the strategic form of this game. (b) Is there a strictly dominant strategy equilibrium of this game? Explain. (c) Is there a weakly dominant strategy equilibrium of this game? Explain. (d) What are the action profiles that survive Iterated Elimination of Strictly Dominated actions? Explain. (e) What are the action profiles that survive Iterated Elimination of Weakly Dominated actions? Explain. (f) Is the game dominance solvable? 2. Two people are engaged in a joint project. If each person i puts in the effort xi , a non-negative number equal to at most 1, which costs her c(xi ), the outcome of the project is worth f (x1 , x2 ). The worth of the project is split equally between the two people, regardless of their effort levels. 1 ECO502/EE698A (a) Formulate this situation as a strategic game. (b) Find its Nash equilibria...
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...Game Theory Themes 1. Introduction to Game Theory 2. Sequential Games 3. Simultaneous Games 4. Conclusion Introduction to Game Theory Game theory is the branch of decision theory concerned with interdependent decisions. The problems of interest involve multiple participants, each of whom has individual objectives related to a common system or shared resources. Because game theory arose from the analysis of competitive scenarios, the problems are called games and the participants are called players. But these techniques apply to more than just sport, and are not even limited to competitive situations. In short, game theory deals with any problem in which each player’s strategy depends on what the other players do. Situations involving interdependent decisions arise frequently, in all walks of life. A few examples in which game theory could come in handy include: ● Friends choosing where to go have dinner ● Parents trying to get children to behave ● Commuters deciding how to go to work ● Businesses competing in a market ● Diplomats negotiating a treaty ● Gamblers betting in a card game All of these situations call for strategic thinking – making use of available information to devise the best plan to achieve one’s objectives. Perhaps you are already familiar with assessing costs and benefits in order to make informed decisions between several options. Game theory simply extends this concept to interdependent decisions, in which the options being evaluated are functions of...
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