Index portfolio and welfare analysis under heterogeneous beliefs

Xue Zhong He, Lei Shi*

*Corresponding author for this work

Research output: Contribution to journalArticle

2 Citations (Scopus)

Abstract

With a growing popularity of index funds, we adopt a differences-in-opinion, general equilibrium framework to examine theoretically whether investors are better off with an index portfolio than active investing. In contrary to the conventional view, we find that, even for an active investor with the most accurate belief, switching to an index portfolio can significantly improve his expected ex-post welfare when the active investors have incorrect beliefs or face incomplete information. Moreover, the welfare improvement becomes more substantial when the active investors are more risk averse.

Original languageEnglish
Pages (from-to)64-79
Number of pages16
JournalJournal of Banking and Finance
Volume75
DOIs
Publication statusPublished - 1 Feb 2017
Externally publishedYes

Keywords

  • Active investing
  • Differences in opinion
  • General equilibrium model
  • Index funds
  • Welfare analysis

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