Tournament incentives and the risk-taking behavior of financial agents

Existing studies document that financial agents, e.g. fund managers, have tournament incentives. Top performers gain both pecuniary and non-pecuniary rewards whereas bottom performers bear job termination risks and large psychological costs. Existing theoretical and empirical analyses of how tournament incentives affect risk-taking have been largely restricted to the effects on return volatility and to the effects produced by upside rewards. Little is known about how tournament incentives affect higher moments of fund returns and the effects when upside rewards and downside penalties coexist. We will provide this framework and make predictions on how different reward/penalty schemes affect the volatility and higher moments of fund returns. We will test these predictions in lab experiments, and also explore possible gender effects.