International Political Economy: Investment & Finance eJournal | 2021
Asset Pricing Implications of the Mismatch Between Performance Window and Benchmark Duration
Abstract
This paper studies the mismatch between asset managers performance window and the time average of their benchmark dividend payouts, commonly referred to as duration. Our asset pricing equilibrium mechanism provides the first plausible theoretical foundation for the recent empirical findings showing that the risk premium, volatility, and Sharpe ratio on short-term dividend strips are higher than long-term dividend strips. These findings are at odds with the leading equilibrium asset pricing models, such as long-run risk, external habit formation, and rare disaster risk models. Our continuous-time setup admits precise closed-form expressions. We provide novel empirical evidence to support other model predictions.