We argue that active management's popularity is not puzzling despite the industry's poor track record. Our explanation features decreasing returns to scale: As the industry's size increases, every manager's ability to outperform passive benchmarks declines. The poor track record occurred before...

We develop a framework for estimating expected returns - a predictive system - that allows predictors to be imperfectly correlated with the conditional expected return. When predictors are imperfect, the estimated expected return depends on past returns in a manner that hinges on the correlation...

We construct optimal portfolios of equity funds by combining historical returns on funds and passive indexes with prior views about asset pricing and skill. By including both benchmark and nonbenchmark indexes, we distinguish pricing-model inaccuracy from managerial skill. Even modest confidence...

This study investigates whether market-wide liquidity is a state variable important for asset pricing. We find that expected stock returns are related cross-sectionally to the sensitivities of returns to fluctuations in aggregate liquidity. Our monthly liquidity measure, an average of...

Estimates of standard performance measures can be improved by using returns on assets not used to de?ne those measures. Alpha, the intercept in a regression of a fund's return on passive benchmark returns, can be estimated more precisely by using information in returns on non-benchmark passive...

Our framework for evaluating and investing in mutual funds combines observed returns on funds and passive assets with prior beliefs that distinguish pricing-model inaccuracy from managerial skill. A fund's quot;alphaquot; is defined using passive benchmarks. We show that returns on non-benchmark...

A long return history is useful in estimating the current equity premium even if the historical distribution has experienced structural breaks. The long series helps not only if the timing of breaks is uncertain but also if one believes that large shifts in the premium are unlikely or that the...

Equity costs of capital for individual firms are estimated using several models that relate expected returns to betas on one or more pervasive factors. A Bayesian approach incorporates prior uncertainty about an asset's mispricing as well as uncertainty about betas and factor means. Substantial...

The Critical Finance Review commissioned Li, Novy-Marx, and Velikov (2017) and Pontiff and Singla (2019) to replicate the results in Pástor and Stambaugh (2003). Both studies successfully replicate our market-wide liquidity measure and find similar estimates of the liquidity risk premium. In...

We present a model of investing based on environmental, social, and governance (ESG) criteria. In equilibrium, green assets have negative CAPM alphas, whereas brown assets have positive alphas. Green assets' negative alphas stem from investors' preference for green holdings and from green...