Juan Sotes-Paladino

Ph.D. Candidate in Finance
Marshall School of Business
University of Southern California

Contact Information:

3670 Trousdale Parkway, BRI 308
Los Angeles, CA 90089-0804

E-mail: sotespal@usc.edu
Phone: (+1) 323-641-8518

• Should We Expect Superior Managers to Be Stars? (Dis)Incentive Effects of Fund Flows in Money Management (Job Market Paper)

  Abstract: In a dynamic portfolio choice framework, I characterize analytically the investment policy of money managers with superior investment ability when fund flows are a convex function of end-of-period performance relative to peers. I show that skilled managers adopt contrarian strategies with respect to peers early in the period until a desired outperformance margin is achieved. Thereafter, they hedge against relative underperformance by investing like the herd. Convex fund flows may then induce excessive risk-taking in certain circumstances but excessive conservatism on average, leading the best managers to look like average performers. More generally, small differences in the flow-performance relationship can result in substantially different average risk-taking (herd vs. contrarian) behavior and return profiles by identically skilled managers. I argue that traditional measures may fail to adjust fund performance for the type of risks these managers take. Using a sample of top performers in the US mutual fund industry I present evidence supporting the model-implied relation between funds' herd/contrarian behavior and their flow-performance relationships.

• The Value of Cross-Trading to Mutual Fund Families in Illiquid Markets: A Portfolio Choice Approach, with Luis Goncalves-Pinto (National University of Singapore)

  Abstract: We analyze a liquidity-constrained dynamic asset allocation problem in which investors delegate their portfolios to mutual funds that operate under a family organization. The funds are allowed to cross their trades of illiquid common holdings in response to the interests of the family as a whole, and investors' flows are assumed to reward funds with good past performance disproportionately more than they penalize poorly performing ones. We focus on a previously unexplored channel through which fund families can play favorites among affiliated funds: to have some funds avoid the costs of illiquidity by making others adopt suboptimal investment decisions. We find that families' ability to cross-trade among member funds allows them to save on transaction costs but at the same time elicits higher risk-taking by affiliated fund managers, compared to their standalone counterparts. Moreover, we show that the optimal investment strategies might induce changes in the risk-return profile of the affiliated funds, turning a priori relatively conservative, low return funds, into aggressive, high return ones, and vice versa. We also find that the additional costs of agency that investors incur under a fund family arrangement are likely to increase with asset liquidity. Finally, we show that investors can be better off in general when imposing position limits on their funds' portfolios.

• Compensation of Portfolio Managers with Private Information: When are Option-Like Fees Preferred? (Work in Progress)

  Abstract: I study the optimal design of compensation fees for a money manager when both she and the delegating household face incomplete information about asset returns, in a setting in which the manager’s access to private information can render portfolio delegation valuable. The analysis focuses on the typical contracts observed in the industry, which include a proportional asset-based fee and benchmark-linked incentive fees of two types: (i) a symmetric ("fulcrum") fee, and (ii) an asymmetric ("option-like") fee. I provide closed-form solution for the manager's optimal dynamic asset allocation over a fixed investment horizon, and analyze numerically the contract that maximizes household's utility from delegation. In contrast to prior literature, I show that simple benchmarking rules attain close to first-best risk-sharing for any precision of the managers’ private information. When the manager’s risk-tolerance is known and differs from household’s, the optimal contract –within the class considered– is linear and always includes a benchmark-linked symmetric fee. In order to offset excessive or insufficient hedge against future forecast errors by the manager, the optimal benchmark has either very high or very low risk exposure, but rarely equals the unconditionally efficient portfolio the uninformed household would choose herself if trading on her own. I argue that option-like fees are dominated by fulcrum fees but in turn dominate pure proportional asset-based fees in most situations. The optimality of positive benchmarked-linked fulcrum fees in the compensation contract can hold even when the household cannot observe the manager’s risk-tolerance but holds symmetric priors centered at her own risk aversion coefficient.
  

• AFA Student Travel Award, American Finance Association Annual Meetings, in Denver, Jan 2011.
• USC Marshall School of Business Graduate Assistantship, 2007 - 2012.
• Organization of the American States, Graduate Academic Scholarships (Declined), 2006-2007.
• University of Buenos Aires, Magna Cum Laude Distinction, 2002.

"The Value of Cross-Trading to Mutual Fund Families in Illiquid Markets"

• Vienna Graduate School of Finance, Vienna, Austria, June 2011 [co-author].
• 2011 FIRS Conference, Sydney, Australia, June 2011 [co-author].
• 2nd World Finance Conference, Rhodes, Greece, June 2011.
• 2011 FMA European Conference, Porto, Portugal, June 2011.
• 6th Portuguese Finance Network Conference, Azores, Portugal, July 2010 [co-author].
• LBS 10th Trans-Atlantic Doctoral Conference, London, UK, May 2010 [co-author].