Working papers results

We present a new model of money management, in which investors delegate portfolio management to professionals based not only on performance, but also on trust. Trust in the manager reduces an investor' perception of the riskiness of a given investment, and allows managers to charge higher fees to investors who trust them more. Money managers compete for investor funds by setting their fees, but because of trust the fees do not fall to costs. In the model, 1) managers consistently underperform the market net of fees but investors still prefer to delegate money management to taking risk on their own, 2) fees involve sharing of expected returns between managers and investors, with higher fees in riskier products, 3) managers pander to investors when investors exhibit biases in their beliefs, and do not correct misperceptions, and 4) despite long run benefits from better performance, the profits from pandering to trusting investors discourage managers from pursuing contrarian strategies relative to the case with o trust. We show how trust-mediated money management renders arbitrage less effective, and may help destabilize financial markets.

We present a theory of context-dependent choice in which a consumer's attention is drawn to salient attributes of goods, such as quality or price. An attribute is salient for a good when it stands out among the good's attributes, relative to that attribute's average level in the choice set (or generally, the evoked set). Consumers attach disproportionately high weight to salient attributes and their choices are tilted toward goods with higher quality/price ratios. The model accounts for a variety of disparate evidence, including decoy effects, context-dependent willingness to pay, and large shifts in demand in response to price shocks.

We present a model of sovereign debt in which, contrary to conventional wisdom, government defaults are costly because they destroy the balance sheets of domestic banks. In our model, better financial institutions allow banks to be more leveraged, thereby making them more vulnerable to sovereign defaults. Our predictions: government defaults should lead to declines in private credit, and these declines should be larger in countries where financial institutions are more developed and banks hold more government bonds. In these same countries, government defaults should be less likely. Using a large panel of countries, we find evidence consistent with these predictions.

We conduct a geographically and temporally disaggregated empirical analysis of civil conflict at the sub-national level in Africa over the period 1997-2011. Our units of observation are cells of 1 degree of latitude by 1 degree of longitude. We exploit within-year variation in the timing of weather shocks and in the growing season of different crops, as well as spatial variation in crop cover, to construct an original measure of shocks that are relevant for agricultural production. Employing a new drought index we show that negative climate shocks which occur during the growing season of the main crop cultivated in the cell have a sizeable and persistent effect on conflict incidence. We also use state-of-the-art spatial econometric techniques to test for the presence of temporal and spatial spillovers in conflict, and we find both to be sizeable and highly statistically significant. Exploiting variation in the type of conflict episode, we find that the impact of climate shocks on conflict is particularly significant when focusing on outcomes such as battles and violence against civilians. Our estimates can be used to predict how future warming scenarios affect the prevalence and diffusion of conflict.

I show that labor-tying (being in a labor contract where the employer also acts as an insurance-provider) is an important channel through which the poor in rural Bangladesh insure themselves against risks. Using a theoretical framework adapted from Bardhan (1983), I analyze the effects of an exogenous increase in the outside options of poor women (through an improvement in their self-employment opportunities) on their and their spouses' participation in tied labor, as well as the general equilibrium effects of the treatment on the terms of the labor contracts in the village. I find that treated women and their spouses are less likely to be in tied-labor contracts. Their wages increase through two channels: (a) due to the switch from tied to casual labor contracts (b) through the general equilibrium effects in the village labor market. Furthermore, I find that the treated households form reciprocal transfer links with wealthier households in the village. These findings imply that poor households may be involved in second-best labor contracts to insure themselves against risks. When their self-employment opportunities improve, they break these ties and move to greater reliance on reciprocal transfer arrangements.

Recent research emphasizes the importance of information feedback in situations of recurrent decisions and strategic interaction, showing how it affects the uncertainty that underlies selfconfifirming equilibrium (e.g., Battigalli et al. [9, 2015], Fudenberg and Kamada [13, 2015]). Here, we discuss in detail several properties of this key feature of recurrent interaction and derive relationships. This allows us to elucidate our notion of Maxmin selfconfifirming equilibrium, hereby agents are extremely ambiguity averse, and to compare it with the partially-specified-probabilities (PSP) equilibrium of Lehrer [19, 2012]. Symmetric Maxmin selfconfifirming equilibrium in mixed strategies exists under either observable payoffs,or separable feedback.The latter assumption makes this equilibrium concept essentially equivalent to PSP-equilibrium. If observability of payoffs holds as well, then these equilibrium concepts collapse to mixed Nash equilibrium.

Given a functional defi...ned on a nonempty subset of an Archimedean Riesz space with unit, necessary and sufficient conditions are obtained for the existence of a (convex or concave) niveloid that extends the functional to the entire space. In the language of mathematical fi...nance, this problem is equivalent to the one of verifying if the policy adopted by a regulator is consistent with monetary risk measurement, when only partial information is available.

Gneezy (2005) reports evidence indicating that in some settings people do not like to lie. In many other situations people do not suffer when they lie. We argue that the theory of simple guilt can accommodate these observations.

We examine whether the dynamics of the implied volatility surface of individual equity options contains exploitable predictability patterns. Predictability in implied volatilities is expected due to the learning behavior of agents in option markets. In particular, we explore the possibility that the dynamics of the implied volatility surface of individual equity options may be associated with movements in the volatility surface of S&P 500 index options. We present evidence of strong predictable features in the cross-section of equity options and of dynamic linkages between the implied volatility surfaces of equity options and S&P 500 index options. Moreover, time-variations in stock option volatility surfaces are best predicted by incorporating information from the dynamics in the implied volatility surface of S&P 500 index options. We analyze the economic value of such dynamic patterns using strategies that trade straddle and delta-hedged portfolios, and we find that before transaction costs such strategies produce abnormal risk-adjusted returns.

We systematically assess the recursive performance costs–both ex-ante and ex-post–in recursive real time out-of-sample experiments of implementing diversification strategies that allow occupational investment vehicles (OIVs, like pension funds) to allocate wealth across available assets (equities) by taking into account the presence of regimes and non-stationarities (i.e., structural change in parameters) in the correlation between sector-specific earnings/wages dynamics and stock returns. We find that ex-post, the cost of creating OIVs is negligible and, to the contrary, often negative over our evaluation period: this means that OIVs that exploit and forecast bull and bear regimes end up producing realized performance that are better than those of strategies that do not. The origins of such gains lie in the fact that conditioning on sectorial dynamics, may lead to a more accurate identification and forecasting of regime shifts. Contrary to standard intuition, both ex-ante and ex-post, we find evidence that often an OIV ought to optimally invest in stocks issued either by firms that belong to the same sector that characterizes the OIV or at least from the same country as the OIV.