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Authors: Dybvig, Philip H.
Farnsworth, Heber K.
Carpenter, Jennifer
Issue Date: 2004
Series/Report no.: SC-AM-04-03
Abstract: The literature traditionally assumes that a portfolio manager who expends costly effort to generate information makes an unrestricted portfolio choice and is paid according to a sharing rule. However, the revelation principle provides a more efficient institution. If credible communication of the signal is possible, then the optimal contract restricts portfolio choice and pays the manager a fraction of a benchmark plus a bonus proportional to performance relative to the benchmark. If credible communication is not possible, an additional incentive to report extreme signals may be required to remove a possible incentive to underprovide effort and feign a neutral signal.
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