Hedge fund managers are compensated via management fees on the assets under management (AUM) and incentive fees indexed to the high-water mark (HWM). We study the effects of managerial skills (alpha) and compensation on dynamic leverage choices and the valuation of fees and investors' payoffs....

Optimal investment of firms implies that expected stock returns are tied with the expected marginal benefit of investment divided by the marginal cost of investment. Winners have higher expected growth and expected marginal productivity (two major components of the marginal benefit of...

We present a model in which some investors are prohibited from using leverage and other investors' leverage is limited by margin requirements. The former investors bid up high-beta assets while the latter agents trade to profit from this, but must de-lever when they hit their margin constraints....

A plot of expected returns versus betas obeys virtually no relation to an inefficient index portfolio's mean-variance location. If the index portfolio is inefficient, then the coefficients and R- squared from an ordinary-least-squares regression of expected returns on betas can equal essentially...

We examine the evidence on excess stock return predictability in a Bayesian setting in which the investor faces uncertainty about both the existence and strength of predictability. When we apply our methods to the dividend-price ratio, we find that even investors who are quite skeptical about...

Many financial instruments are designed with embedded leverage such as options and leveraged exchange traded funds (ETFs). Embedded leverage alleviates investors' leverage constraints and, therefore, we hypothesize that embedded leverage lowers required returns. Consistent with this hypothesis,...

We propose a new approach to constructing inflation tracking portfolios. The key to this approach is the insight that asset returns track expected inflation far better than they track current realized inflation. Thus, we can construct portfolios that track next month's inflation much more...

The question of whether and how mutual fund managers provide valuable services for their clients motivates one of the largest literatures in finance. One candidate explanation is that funds process information about future asset values and use that information to invest in high-valued assets....

We derive a closed-form optimal dynamic portfolio policy when trading is costly and security returns are predictable by signals with different mean-reversion speeds. The optimal strategy is characterized by two principles: 1) aim in front of the target and 2) trade partially towards the current...

We propose an empirical implementation of the consumption-investment problem using the martingale representation alternative to dynamic programming. Our method is based on the direct observation of state prices from options data. This greatly simplifies the investor's task of specifying the...