|
Efficient Benchmarking
Shane S Dikolli, Duke University
Christian Hofmann, University of Tuebingen
Thomas Pfeiffer, University of Vienna
ABSTRACT. We show that for relative performance evaluation (RPE) purposes, aggregating peer-firm performance using simple assumptions (such as equal weights or weights based on a relative correlation coefficient) are rarely optimal, despite the common use of such assumptions in prior empirical studies. Our results demonstrate that the optimal aggregation method depends on the impact of a market-wide shock on the firm, relative to the impact of the shock on the overall market after adjusting for idiosyncratic (i.e., firm-specific) risk. We further show that the effect of market risk on the optimal aggregation and ultimately compensation depends on the idiosyncratic risk of the peer firms and the number of peer firms used to evaluate performance. The results imply that when using a finite number of peer firms, as is typically done in prior empirical work on RPE, the method by which peer-firm performance is aggregated will determine the success with which RPE is detected.
Full-Text is no longer available online. Please contact the author(s) for more information about this manuscript.
Back to Session Listing
|