DSpace Community: Stern School of Business

A Reference Point Theory of Mergers and Acquisitions

Title: A Reference Point Theory of Mergers and Acquisitions

Wurgler, Jeffrey; Pan, Xin; Baker, Malcolm

Abstract: The use of judgmental anchors or reference points in valuingcorporations affects several basic aspects of merger and acquisitionactivity including offer prices, deal success, market reaction, andmerger waves. Offer prices are biased toward the 52-week high, a highlysalient but largely irrelevant past price, and the modal offer price isexactly that reference price. An offer’s probability of acceptancediscontinuously increases when the offer exceeds the 52-week high;conversely, bidder shareholders react increasingly negatively as theoffer price is pulled upward toward that price. Merger waves occur whenhigh recent returns on the stock market and on likely targets make iteasier for bidders to offer the 52-week high.

How Much of the Diversification Discount Can be Explained by Poor Corporate Governance?

Title: How Much of the Diversification Discount Can be Explained by PoorCorporate Governance?

Yermack, David; Hoechle, Daniel; Schmid, Markus; Walter, Ingo

Abstract: We investigate whether the diversification discount is simply a proxyfor poor corporate governance. We find that the negative value impact ofdiversification is amplified by adverse governance variables such as lowCEO ownership, low board independence, and board classification, andthat approximately 25% to 30% of the diversification discount can beattributed to suboptimal governance choices by conglomerate firms. Ourmethodology includes a dynamic panel GMM estimator that accounts for theendogeneity of the diversification decision and corporate governance,plus an event study analysis of diversifying mergers. Even aftercontrolling for governance, the diversification discount remainsnegative and significant.

Stockholder and Bondholder Reactions To Revelations of Large CEO Inside Debt Holdings: An Empirical Analysis

Title: Stockholder and Bondholder Reactions To Revelations of Large CEO InsideDebt Holdings: An Empirical Analysis

Yermack, David; Chenyang, Wei

Abstract: We conduct an event study of stockholders’ and bondholders’reactions to companies’ initial reports of their CEOs’inside debt positions, as required by SEC disclosure regulations thatbecame effective early in 2007. Results show that bond prices rise,equity prices fall, and the volatility of both securities drops at thetime of disclosures by firms whose CEOs have sizeable pensions ordeferred compensation. The results indicate a transfer of value fromequity toward debt, as well as an overall destruction of enterprisevalue, when a CEO’s inside debt holdings are large.

The Gestalt in Graphs: Prediction Using Economic Networks

Title: The Gestalt in Graphs: Prediction Using Economic Networks

Dhar, Vasant; Oestreicher-Singer, Gal; Sundararajan, Arun; Umyarov, Akhmed

Abstract: We define an economic network as a linked set of entities, where linksare created by actual realizations of shared economic outcomes betweenentities. Such networks are becoming increasingly prevalent on theInternet, an example being the copurchase netwok on Amazon whereentities are books and links designate which pairs were purchasedsimultaneously. Our dataset covers a diverse set of books spanning over400 categories over a period of three years with a total of over 70million observations. To our knowledge, this is the first large scalestudy showing that an economic network contains useful predictiveinformation that is distributed in the network. We show that an economicnetwork contains predictive information. Specifically, we demonstratethat an entity’s future demand is more accurately predicted bycombining its historical demand with that of its neighbors than byconsidering its demand alone. In other words, if you want to know whatyour state will be in the future, consider what is happening to yourneighbors now. This result could apply to other economic networks whereoutcomes of sets of entities tend to be related.

The Role of Banks in Dividend Policy

Title: The Role of Banks in Dividend Policy

Allen, Linda; Gottesman, Aron; Saunders, Anthony; Tang, Yi

Abstract: We document a significant inverse relationship between a firm’sdividend payouts and reliance on bank loan financing. Banks limitdividend payouts to shareholders in order to protect the integrity oftheir senior claims on the firm’s assets. Moreover, dividendpayouts decline in the presence of monitoring by relationship banks,which acts as an effective governance mechanism, thereby reducing thegains from pre-committing to costly dividend payouts. Bank monitoringand corporate governance (insider stake and institutional blockholdings) are complementary mechanisms to resolve firm agency problems,both reducing the firm’s reliance on dividend policy.

Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidence from the Sub-prime Crisis

Title: Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidencefrom the Sub-prime Crisis

Archarya, Viral V.; Merrouche, Ouarda

Abstract: Using data on the behavior of large settlement banks in the UK and theSterling Money Markets before and during the sub-prime crisis of2007-08, we provide evidence of precautionary hoarding of liquidity andits e ect on inter-bank borrowing rates. Our evidence consists of threepieces. First, we document that liquidity holdings of the largesettlement banks in the UK experienced on average a 30% increase in theperiod immediately following 9th August, 2007, the widely accepted dateof money-market "freeze" during the sub-prime crisis. Second,we show that following this structural break, bank liquidity had aprecautionary nature in that it rose on calendar days predicted to havea large amount of uctuations in payment and settlements activity andmore so for banks that made larger losses during the crisis. Third,using the payment and settlements activity as an instrument, weestablish a causal e ect of bank liquidity on overnight inter-bankrates, in both secured and unsecured markets, an e ect that is virtuallyabsent in the period before the crisis. Importantly, precautionaryhoardings by some settlement banks raised lending rates for allsettlement banks, suggestive of a contagion-style systemic riskoperating through inter-bank rates. Finally, variability in overnightinter-bank rates appears to have a ected rates and volumes in householdas well as corporate lending.

The New Case for Functional Separation in Wholesale Financial Services

Title: The New Case for Functional Separation in Wholesale Financial Services

Walter, Ingo

Abstract: This paper reexamines the separation of commercial and investmentbanking in the context of modern wholesale financial environment,dominated by a small cohort of “systemic” institutions. Thepaper traces the pathology of regulation and deregulation from thewatershed events of the 1930s to the systemic financial failures of therecent past. It then considers the structure, conduct and performance ofthe wholesale financial industry and how firms that cannot be allowed tocollapse get that way. Based on the industrial organization of globalwholesale finance, the paper then examines the available regulatorytechniques, and makes some judgments as to their relative promise inpromoting future financial stability with least possible dislocation offinancial efficiency, proposing benchmarks for the calibration ofproposals for regulatory reform. The paper then evaluates functionalseparation and carve-outs of high-risk activities that cannot defensiblybe conducted within systemic financial firms in the real world of powerpolitics and regulatory capture. The paper concludes that blanketcondemnation of the functional-separation features of the 1930sfinancial reforms is unwarranted in the light of ongoing experience, andthat it is time to revisit this issue in reconfiguring the globalwholesale financial architecture.

Trust and Delegation

Title: Trust and Delegation

Brown, Stephen J.; Liang, Bing; Goetzmann, William N; Schwarz, Christopher

Abstract: Due to imperfect transparency and costly auditing, trust is an essentialcomponent of financial intermediation. In this paper we study acomprehensive sample of due diligence reports from a major hedge funddue diligence firm. A routine feature of due diligence is an assessmentof integrity. We find that misrepresentation about past legal andregulatory problems is frequent (21%), as is incorrect or unverifiablerepresentations about other topics (28%). Misrepresentation, the failureto use a major auditing firm and the use of internal pricing aresignificantly related to legal and regulatory problems, indices ofoperational risk. Due diligence (DD) reports are costly and are onlyperformed when a fund is seriously considered for investment. It isimportant to control for this conditioning which would otherwise biascross-sectional analysis. We find that DD reports are typically issuedon high return funds three months after the historical performance haspeaked. DD reports are also issued at the point of highest cash flowinto the fund. This pattern is consistent with return chasing behaviorby institutional hedge fund investors.

Energizing Bidder's Choice in Financial Assets Auctions - An Experimental Investigation

Title: Energizing Bidder's Choice in Financial Assets Auctions - AnExperimental Investigation

Brenner, Menachem; Galai, Dan; Sade, Orly

Abstract: The objective of this paper is to investigate the preferences ofpotential bidders in choosing between uniform and discriminatory auctionpricing methods. Many financial assets, particularly government bonds,are issued in an auction. Uniform and discriminatory pricing constitutethe two most popular mechanisms used in public auctions. Theoreticalpapers have not been able to provide an unequivocal preference of onemechanism over the other. This study investigates both bidder choice andthe impact of that choice on the outcome of the auction by allowingbidders to choose between the two alternative systems. The majority ofthe bidders in the survey prefer uniform pricing. Those preferringuniform auctions tend to bid more aggressively than those preferringdiscriminatory. On average, the proceeds to the issuer were higher underthe uniform price mechanism.

Prediction in Financial Markets: The Case for Small Disjuncts

Title: Prediction in Financial Markets: The Case for Small Disjuncts

Dhar, Vasant

Abstract: Predictive models in regression and classification problems typicallyhave a single model that covers most, if not all, cases in the data. Atthe opposite end of the spectrum is a collection of models each of whichcovers a very small subset of the decision space. These are referred toas “small disjuncts.” The tradeoffs between the two types ofmodels have been well documented. Single models, especially linear ones,are easy to interpret and explain. In contrast, small disjuncts do notprovide as clean or as simple an interpretation of the data, and havebeen shown by several researchers to be responsible for adisproportionately large number of errors when applied to out of sampledata. This research provides a counterpoint, demonstrating that“simple” small disjuncts provide a credible model forfinancial market prediction, a problem with a high degree of noise. Arelated novel contribution of this paper is a simple method formeasuring the “yield” of a learning system, which is thepercentage of in sample performance that the learned model can beexpected to realize on out-of-sample data. Curiously, such a measure ismissing from the literature on regression learning algorithms.

Efficient Ranked Queries on Sources with Boolean Query Interfaces

Title: Efficient Ranked Queries on Sources with Boolean Query Interfaces

Hristidis, Vagelis; Hu, Yuheng; Ipeirotis, Panagiotis G.

Abstract: Many online or local data sources provide powerful querying mechanismsbut limited ranking capabilities. For instance, PubMed allows users tosubmit highly expressive Boolean keyword queries, but ranks the queryresults by date only. However, a user would typically prefer a rankingby relevance, measured by an Information Retrieval (IR) rankingfunction. The naive approach would be to submit a disjunctive query withall query keywords, retrieve the returned documents, and then re-rankthem. Unfortunately, such an operation would be very expensive due tothe large number of results returned by disjunctive queries. In thispaper we present algorithms that return the top results for a query,ranked according to an IR-style ranking function, while operating on topof a source with a Boolean query interface with no ranking capabilities(or a ranking capability of no interest to the end user). The algorithmsgenerate a series of conjunctive queries that return only documents thatare candidates for being highly ranked according to a relevance metric.Our approach can also be applied to other settings where the ranking ismonotonic on a set of factors (query keywords in IR) and the sourcequery interface is a Boolean expression of these factors. Ourcomprehensive experimental evaluation on the PubMed database and a TRECdataset show that we achieve order of magnitude improvement compared tothe current baseline approaches.

Efficient Recapitalization

Title: Efficient Recapitalization

Philippon, Thomas; Schnabl, Philipp

Abstract: We analyze public interventions to alleviate debt overhang among privaterms when the government has limited information and limited resources.We compare the e¢ ciency of buying equity, purchasing existingassets, and providing debt guarantees. With sym- metric information, allthe interventions are equivalent. With asymmetric information betweenrms and the government, buying equity dominates the two other interven-tions. We solve for the optimal intervention, and show how it can beimplemented with subordinated loans and warrants.

Post-Chapter 11 Bankruptcy Performance: Avoiding Chapter 22

Title: Post-Chapter 11 Bankruptcy Performance: Avoiding Chapter 22

Altman, Edward; Kant, Tushar; Rattanaruengyot, Thongchai

Abstract: Forty years ago, I developed a method of predicting bankruptcies by U.S.[public] companies that makes use of equity market values as well asfundamental financial and operating data. Since that time, my“Z-Score” model has become one of the most widely usedmethods for assessing the creditworthiness of manufacturing companiesthroughout the world. And it continues to be used by both financescholars and practitioners in a variety of ways, including credit anddebt analysis, investment decisions, merger and acquisition screens,audit-risk analysis, and receivables management. It has also been usedby corporate managers and their advisers when managing turnarounds ofdistressed companies. This article extends the use of bankruptcyprediction models to a new application: the assessment of the health ofindustrial companies as they emerge from the Chapter 11 bankruptcyprocess, including the probability that the companies will have to filefor bankruptcy again—the so-called “Chapter 22”phenomenon. Using a modified Z-Score model, I find significant economicdifferences between those companies that emerge from Ch. 11 and surviveas going concerns and those that later file again. In particular,companies that filed a second Chapter 11 had significantly higherleverage and lower profitability shortly after emerging the first time.The predictive ability of this modified Z-Score suggests it can be usedas a effective tool for evaluating the quality and efficacy of thebankruptcy reorganization plan.

The re-emergence of distressed exchanges in corporate restructurings

Title: The re-emergence of distressed exchanges in corporate restructurings

Altman, Edward; Karlin, Brenda

Abstract: In 2008 and 2009, bondholders of ailing companies were affected by areemergence of an important corporate restructuring strategy, known as aDistressed Exchange. Fourteen companies in 2008 completed this desperateattempt to avoid a formal bankruptcy filing – about twice as manyas any single year in the last 25 years, involving twice as much indollar amount than in the entire prior history (1984-2007). And, in justthe first four months of 2009, nine firms have already completeddistressed exchanges. The recovery rate to bondholders participating indistressed exchanges over the last 25 years is significantly higher thanrecoveries on other, more dramatic types of default – namelypayment defaults and bankruptcies. But, there is no guarantee that adistressed exchange will permanently immunize the firm from furtherdistress, with almost 50% of all companies completing distressedexchanges prior to 2008 ultimately filing for bankruptcy.

Creditor rights and corporate risk-taking

Title: Creditor rights and corporate risk-taking

Acharya, Viral; Amihud, Yakov; Litov, Lubomir

Abstract: We analyze the link between creditor rights and firms’ investmentpolicies, proposing that stronger creditor rights in bankruptcy reducecorporate risk-taking. In cross-country analysis, we find that strongercreditor rights induce greater propensity of firms to engage indiversifying acquisitions, which result in poorer operating andstock-market abnormal performance. In countries with strong creditorrights, firms also have lower cash flow risk and lower leverage, andthere is greater propensity of firms with low-recovery assets to acquiretargets with high-recovery assets. These relationships are strongest incountries where management is dismissed in reorganization, and areobserved in time-series analysis around changes in creditor rights. Ourresults question the value of strong creditor rights as they have anadverse effect on firms by inhibiting management from undertaking risky investments.

Securitization and Real Investment in Incomplete Markets

Title: Securitization and Real Investment in Incomplete Markets

Subrahmanyam, Marti; Gaur, Vishal; Seshadri, Sridhar

Abstract: We study the impact of financial innovations on real investmentdecisions within the framework of an incomplete market economy comprisedof fi rms, investors, and an intermediary. The fi rms face uniqueinvestment opportunities that arise in their business operations and canbe undertaken at given reservation prices. The cash flows thus generatedare not spanned by the securities traded in the fi nancial market, andcannot be valued uniquely. The intermediary purchases claims againstthese cash flows, pools them together, and sells tranches of primary orsecondary securities to the investors. We derive necessary and suffcientconditions under which projects are undertaken due to the intermediary'sactions, and firms are amenable to the pool proposed by theintermediary, compared to the no-investment option or the option offorming alternative pools. We also determine the structure of the newsecurities created by the intermediary and identify how it exploits thearbitrage opportunities available in the market. Our results haveimplications for valuation of real investments, synergies among them,and their fi nancing mechanisms. We illustrate these implications usingan example of inventory decisions under random demand.

Illiquidity or Credit Deterioration: A Study of Liquidity in the US Corporate Bond Market during Financial Crises

Title: Illiquidity or Credit Deterioration: A Study of Liquidity in the USCorporate Bond Market during Financial Crises

Subrahmanyam, Marti; Friewald, Nils; Jankowitsch, Rainer

Abstract: We use a unique data-set to study liquidity effects in the US corporatebond market, covering more than 30,000 bonds. Our analysis explorestime-series and cross-sectional aspects of corporate bond yield spreads,with the main focus being on the quanti fication of the impact ofliquidity factors, while controlling for credit risk. Our time periodstarts in October 2004 when detailed transaction data from the TradeReporting and Compliance Engine (TRACE) became available. In particular,we examine three diff erent regimes during our sample period, theGM/Ford crisis in 2005 when a segment of the corporate bond market was affected, the sub-prime crisis since mid-2007, which was much morepervasive across the corporate bond market, and the period in between,when market conditions were more normal. We employ a wide range ofliquidity measures and fi nd in our time-series analysis that liquidityeff ects explain approximately one third of market-wide corporate yieldspread changes, in general, and are even more pronounced during periodsof crisis. In particular, the price dispersion measure proposed byJankowitsch, Nashikkar and Subrahmanyam (2008) explains about half ofthe aggregate bond yield spread changes during the sub-prime crisis. Ourdata-set allows us to examine in greater detail liquidity e ffects invarious segments of the market: financial sector fi rms which have beenparticularly aff ected by the crisis vs. industrial firms, investmentgrade vs. speculative grade bonds, and retail vs. institutional trades.In addition, our cross-sectional analysis shows that liquidity explainsa large part of the variation in yield spreads across bonds, afteraccounting for credit risk. These results yield important insightsregarding the liquidity drivers of corporate yield spreads, particularlyduring periods of crisis.

Background Risk and Trading in a Full-Information Rational Expectations Economy

Title: Background Risk and Trading in a Full-Information Rational Expectations Economy

Subrahmanyam, Marti; Stapleton, Richard; Zeng, Qi

Abstract: In this paper we assume that investors have the same information, buttrade due to the evolution of their non-market wealth. In ourformulation, investors rebalance their portfolios in response to changesin their expected non-market wealth, and hence trade. We assume anincomplete market in which risky non-market wealth is non-hedgeable andindependent of the market risk and thus represents an additivebackground risk. Investors who experience positive shocks to theirexpected wealth buy more stocks from those who experience less positive shocks.

Crash Risk in Currency Markets

Title: Crash Risk in Currency Markets

Gabaix, Xavier; Farhi, Emmanuel; Fraiberger, Samuel; Ranciere, Romain; Verdelhan, Adrien

Abstract: How much of carry trade excess returns can be explained by the presenceof disaster risk? To answer this question, we propose a simplestructural model which includes both Gaussian and disaster risk premiaand can be estimated even in samples that do not contain disasters. Themodel points to a novel estimation procedure based on currency optionswith potentially different strikes. We implement this procedure on alarge set of countries over the 1996-2008 period, forming portfolios ofhedged and unhedged carry trade excess returns by sorting currencies ontheir forward discounts. We find that disaster risk premia account forabout 25% of carry trade excess returns in advanced countries.

Do Hedge Funds Trade on Private Information? Evidence from Syndicated Lending

Title: Do Hedge Funds Trade on Private Information? Evidence from Syndicated Lending

Saunders, Anthony; Massoud, Nadia; Nandy, Debarshi; Song, Keke

Abstract: This paper investigates important contemporary issues relating to hedgefund involvement in the syndicated loan market. In particular, weinvestigate the potential conflicts of interest that arise due to thelack of regulation relating to hedge funds permissible dual holding ofloans and short positions in the equity of borrowing firms. We findevidence of possible trading on private information in the equity of thehedge fund borrowers prior to the public announcements of both loanorigination and loan renegotiation (amendments). In addition, ourresults show that hedge funds are more likely to lend to highlyleveraged, low credit quality firms in comparison to bank lenders. Ourresults have important implications for the current debate regardingregulation of the hedge fund industry.

The Role of Banks in Dividend Policy

Title: The Role of Banks in Dividend Policy

Saunders, Anthony; Allen, Linda; Gottesman, Aron; Tang, Yi

Abstract: We document a significant inverse relationship between a firm’sdividend payouts and reliance on bank loan financing. Banks limitdividend payouts to shareholders in order to protect the integrity oftheir senior claims on the firm’s assets. Moreover, dividendpayouts decline in the presence of monitoring by relationship banks,which acts as an effective governance mechanism, thereby reducing thegains from pre-committing to costly dividend payouts. Bank monitoringand corporate governance (insider stake and institutional blockholdings) are complementary mechanisms to resolve firm agency problems,both reducing the firm’s reliance on dividend policy.

Bias Reduction and Likelihood Based Almost-Exactly Sized Hypothesis Testing in Predestricted Likelihoodictive Regressions using the R

Title: Bias Reduction and Likelihood Based Almost-Exactly Sized HypothesisTesting in Predestricted Likelihoodictive Regressions using the R

Chen, Willa W.; Deo, Rohit S.

Abstract: Difficulties with inference in predictive regressions are generallyattributed to strong persistence in the predictor series. We show thatthe major source of the problem is actually the nuisance interceptparameter and propose basing inference on the RestrictedLikelihood,which is free of such nuisance location parameters and alsopossesses small curvature, making it suitable for inference. The bias ofthe Restricted Maximum Likelihood (REML) estimates is shown to beapproximately 50% less than that of the OLS estimates near the unitroot, without loss of efficiency. The error in the chi-squareapproximation to the distribution of the REML based Likelihood RatioTest (RLRT) for no predictability is shown to be 3/4 − ρ2n−1 (G3 (·) − G1 (·)) + O n−2 ,where |ρ| < 1 is the correlation of the innovation series and Gs(·) is the c.d.f. of a χ2s random variable. This very smallerror, free of the AR parameter, suggests that the RLRT forpredictability has very good size properties even when the regressor hasstrong persistence. The Bartlett corrected RLRT achieves an On−2 error. Power under local alternatives is obtained andextensions to more general univariate regressors and vector AR(1)regressors, where OLS may no longer be asymptotically efficient, areprovided. In simulations the RLRT maintains size well, is robust tonon-normal errors and has uniformly higher power than theJansson-Moreira test with gains that can be substantial. The Campbell-Yogo Bonferroni Q test is found to have size distortions and can besignificantly oversized.

The Restricted Likelihood Ratio Test at the Boundary in Autoregressive Series

Title: The Restricted Likelihood Ratio Test at the Boundary in Autoregressive Series

Chen, Willa W.; Deo, Rohit S.

Abstract: The restricted likelihood ratio test, RLRT, for the autoregressivecoefficient in autoregressive models has recently been shown to besecond order pivotal when the autoregressive coefficient is in theinterior of the parameter space and so is very well approximated by thechi-square distribution. In this paper, the non-standard asymptoticdistribution of the RLRT for the unit root boundary value is obtainedand is found to be almost identical to that of the chi-square in theright tail. Together, the above two results imply that the chi-squaredistribution approximates the RLRT distribution very well even for nearunit root series and transitions smoothly to the unit root distribution.

Forecasting and Information Sharing in Supply Chains Under Quasi-ARMA Demand

Title: Forecasting and Information Sharing in Supply Chains Under Quasi-ARMA Demand

Giloni, Avi; Hurvich, Clifford; Seshadri, Sridhar

Abstract: In this paper, we revisit the problem of demand propagation in amulti-stage supply chain in which the retailer observes ARMA demand. Incontrast to previous work, we show how each player constructs the orderbased upon its best linear forecast of leadtime demand given itsavailable information. In order to characterize how demand propagatesthrough the supply chain we construct a new process which we callquasi-ARMA or QUARMA. QUARMA is a generalization of the ARMA model. Weshow that the typical player observes QUARMA demand and places ordersthat are also QUARMA. Thus, the demand propagation model isQUARMA-in-QUARMA-out. We study the value of information sharing betweenadjacent players in the supply chain. We demonstrate that under certainconditions information sharing can have unbounded bene¯ts. Ouranalysis hence reverses and sharpens several previous results in theliterature involving information sharing and also opens up manyquestions for future research.

The Impact of Investor Protection Law on Corporate Policy: Evidence from the Blue Sky Laws

Title: The Impact of Investor Protection Law on Corporate Policy: Evidence fromthe Blue Sky Laws

Agrawal, Ashwini

Abstract: Recent studies have debated the impact of investor protection laws onfirms’ corporate policies. I exploit the passage of state investorprotection statutes (“blue sky laws”) in the U.S. in theearly 20th century to estimate the effects of investor protection law onfirm financing decisions and investment activity. Regression estimatesindicate that the passage of investor protection statutes causes firmsto pay out greater dividends, issue more equity, and grow in size. Theintroduction of investor protection law is also associated withimprovements in operating performance and market valuations. Additionalanalysis suggests that alternative hypotheses for the measured changesin corporate policy and performance have limited explanatory power.Overall, the evidence is strongly supportive of theoretical models whichpredict that investor protection laws have a significant impact on firmfinancing and investment policy.

The 2007-2009 Financial Crisis and Executive Compensation: Analysis and a Proposal for a Novel Structure

Title: The 2007-2009 Financial Crisis and Executive Compensation: Analysis anda Proposal for a Novel Structure

Landskroner, Yoram; Raviv, Alon

Abstract: During the 2007-2009 crises financial institutions have come underincreasing pressure from regulators, politicians and shareholders tochange their compensation practices in order to remove the incentive forshort term excessive risk taking. In this paper we analyze first how thecommon executive compensation, which is composed of equity-basedcompensation (stocks and executive stock options) and a fixed cashcompensation, leads to a concave relationship between assets risk andcompensation value and creates an incentive for the executive to choosecorner solutions that either lead to an excessive risk taking or to afreeze out of the lending activity to the public. This paper’smain contribution is a novel component, for executive compensation, thatis paid only if the value of the firm assets is located in somepredetermined range. This new form of compensation motivates theexecutive to take an intermediate (internal solution) level of assetsrisk because of the convex relationship between assets risk andcompensation value.

RE-EM Trees: A New Data Mining Approach for Longitudinal Data

Title: RE-EM Trees: A New Data Mining Approach for Longitudinal Data

Sela, Rebecca J.; Simonoff, Jeffrey S.

Abstract: Longitudinal data refer to the situation where repeated observations areavailable for each sampled individual. Methodologies that take thisstructure into account allow for systematic differences betweenindividuals that are not related to covariates. A standard methodologyin the statistics literature for this type of data is the random effectsmodel, where these differences between individuals are represented byso-called “effects” that are estimated from the data. Thispaper presents a methodology that combines the flexibility of tree-basedestimation methods with the structure of random effects models forlongitudinal data. We apply the resulting estimation method, called theRE-EM tree, to pricing in online transactions, showing that the RE-EMtree is less sensitive to parametric assumptions and provides improvedpredictive power compared to linear models with random effects andregression trees without random effects. We also perform extensivesimulation experiments to show that the estimator improves predictiveperformance relative to regression trees without random effects and iscomparable or superior to using linear models with random effects inmore general situations.

Conditions for the Propagation of Memory Parameter from Durations to Counts and Realized Volatility

Title: Conditions for the Propagation of Memory Parameter from Durations toCounts and Realized Volatility

Deo, Rohit; Hurvich, Clifford M.; Soulier, Philippe; Wang, Yi

Abstract: We establish sufficient conditions on durations that are stationary withfinite variance and memory parameter $d \in [0,1/2)$ to ensure that thecorresponding counting process $N(t)$ satisfies $Var N(t) \sim Ct^{2d+1}$ ($C>0$) as $t \rightarrow \infty$, with the same memoryparameter $d \in [0,1/2)$ that was assumed for the durations. Thus,these conditions ensure that the memory parameter in durationspropagates to the same memory parameter in the counts. We then show thatany Autoregressive Conditional Duration ACD(1,1) model with a sufficientnumber of finite moments yields short memory in counts, while any LongMemory Stochastic Duration model with $d>0$ and all finite momentsyields long memory in counts, with the same $d$. Finally, we providesome results about the propagation of long memory to theempirically-relevant case of realized variance estimates affected bymarket microstructure noise contamination.

The Psychology of Pricing in Mergers and Acquisitions

Title: The Psychology of Pricing in Mergers and Acquisitions

Wurgler, Jeffrey; Pan, Xin; Baker, Malcolm

Abstract: Psychology-driven pricing practices are evident in mergers andacquisitions. In particular, offer prices are highly influenced by thetarget’s 52-week high stock price. This price likely serves as apsychological anchor—a starting point from which actual bid pricesdo not sufficiently adjust to reflect only current information (Tverskyand Kahneman (1974)). Bidders who pursue targets with 52-week highs thatare well above their current prices experience more negative offerannouncement effects; their investors appear to perceive such bids asmore likely to be overpaying. The probability of deal success isdiscontinuously increased by offering the target a price above its52-week high, indicating that psychology-driven prices have real effects.

Limit Laws in Transaction-Level Asset Price Models

Title: Limit Laws in Transaction-Level Asset Price Models

Aue, Alexander; Horvath, Lajos; Hurvich, Clifford

Abstract: We consider pure-jump transaction-level models for asset prices incontinuous time, driven by point processes. In a bivariate model thatadmits cointegration, we allow for time deformations to account for sucheffects as intraday seasonal patterns in volatility, and non-tradingperiods that may be different for the two assets. Most assumptions arestated directly on the point process, though we provide sufficientconditions on the corresponding inter-trade durations for theseassumptions to hold. We obtain the asymptotic distribution of thelog-price process. We also obtain the asymptotic distribution of theordinary least-squares estimator of the cointegrat- ing parameter basedon data sampled from an equally-spaced discretization of calendar time,in the case of weak fractional cointegration. Finally, we obtain thelimiting distribution of the ordinary least-squares estimator of theautoregressive parameter in a simplified transaction-level univariatemodel with a unit root.

Leveraging aggregate ratings for improving predictive performance of recommender systems

Title: Leveraging aggregate ratings for improving predictive performance ofrecommender systems

Umyarov, Akhmed; Tuzhilin, Alexander

Abstract: This paper describes an approach for incorporating externally specifiedaggregate ratings information into certain types of recommender systems,including two types of collaborating filtering and a hierarchical linearregression model. First, we present a framework for incorporatingaggregate rating information and apply this framework to theaforementioned individual rating models. Then we formally show that thisadditional aggregate rating information provides more accuraterecommendations of individual items to individual users. Further, weexperimentally confirm this theoretical finding by demonstrating onseveral datasets that the aggregate rating information indeed leads tobetter predictions of unknown ratings. We also propose scalable methodsfor incorporating this aggregate information and test our approaches onlarge datasets. Finally, we demonstrate that the aggregate ratinginformation can also be used as a solution to the cold start problem ofrecommender systems.

Global, Local, and Contagious Investor Sentiment

Title: Global, Local, and Contagious Investor Sentiment

Wurgler, Jeffrey; Baker, Malcolm; Yuan, Yu

Abstract: We construct indexes of investor sentiment for six major stock marketsand decompose them into one global and six local indexes. Relativemarket sentiment is correlated with the relative prices of dual-listedcompanies, validating the indexes. Both global and local sentiment arecontrarian predictors of the time series of major markets' returns. Theyare also contrarian predictors of the time series of cross-sectionalreturns within major markets: When sentiment from either global or localsources is high, future returns are low on various categories ofdifficult to arbitrage and difficult to value stocks. Sentiment appearsto be contagious across markets based on tests involving capital flows,and this presumably contributes to the global component of sentiment.

Limit Laws in Transaction-Level Asset Price Models

Title: Limit Laws in Transaction-Level Asset Price Models

Aue, Alexander; Horvath, Lajos; Hurvich, Clifford

Abstract: We consider pure-jump transaction-level models for asset prices incontinuous time, driven by point processes. In a bivariate model thatadmits cointegration, we allow for time deformations to account for suche®ects as intraday seasonal patterns in volatility, and non-tradingperiods that may be di®erent for the two assets. Most assumptionsare stated directly on the point process, though we providesu±cient conditions on the corresponding inter-trade durationsfor these assumptions to hold. We obtain the asymptotic distribution ofthe log-price process. We also obtain the asymptotic distribution of theordinary least-squares estimator of the cointegrat- ing parameter basedon data sampled from an equally-spaced discretization of calendar time,in the case of weak fractional cointegration. Finally, we obtain thelimiting distribution of the ordinary least-squares estimator of theautoregressive parameter in a simpli¯ed transaction-levelunivariate model with a unit root.

Bayesian Learning in Social Networks

Title: Bayesian Learning in Social Networks

Lobel, Ilan; Dahleh, Munther; Acemoglu, Daron; Ozdaglar, Asuman

Abstract: We study the (perfect Bayesian) equilibrium of a model of learning overa general so- cial network. Each individual receives a signal about theunderlying state of the world, observes the past actions of astochastically-generated neighborhood of individuals, and chooses one oftwo possible actions. The stochastic process generating theneighborhoods de¯nes the network topology (social network). Thespecial case where each individual observes all past actions has beenwidely studied in the literature. We characterize pure-strategyequilibria for arbitrary stochastic and deterministic social networksand characterize the conditions under which there will be asymptoticlearning|that is, the conditions under which, as the social networkbecomes large, individuals converge (in probability) to taking the rightaction. We show that when private beliefs are unbounded (meaning thatthe implied likelihood ratios are unbounded), there will be asymptoticlearning as long as there is some minimal amount of \expansion inobservations". Our main theorem shows that when the probabilitythat each individual observes some other individual from the recent pastconverges to one as the social network becomes large, un- boundedprivate beliefs are su±cient to ensure asymptotic learning. Thistheorem there- fore establishes that, with unbounded private beliefs,there will be asymptotic learning in almost all reasonable socialnetworks. We also show that for most network topologies, when privatebeliefs are bounded, there will not be asymptotic learning. In addition,in contrast to the special case where all past actions are observed,asymptotic learning is possible even with bounded beliefs in certainstochastic network topologies.

Mutual Fund’s R^2 as Predictor of Performance

Title: Mutual Fund’s R^2 as Predictor of Performance

Amihud, Yakov; Goyenko, Ruslan

Abstract: We propose that fund performance is predicted by its R^2, obtained byregressing its return on the Fama-French-Carhart four benchmarkportfolios. Lower R2, or higher idiosyncratic risk relative to totalrisk, measures selectivity or active management. We show that lagged R2has significant negative predictive coefficient in predicting alpha orInformation Ratio. This is consistent with Cremers and Petajisto’s(2008) results on the effect of selectivity. Funds ranked into laggedlowest-quintile R2 and highest-quintile alpha produce significant alphaof 2.8%. Also, both fund RMSE and return volatility predict thefollowing year’s performance with significant positive andnegative coefficients, respectively. Across funds, R^2 is an increasingfunction of fund size and a decreasing function of its age, its managertenure and its past performance, but better performance induces funds tosubsequently increase their R^2.

EXAMINING THE DIFFUSION OF USER-GENERATED CONTENT IN ONLINE SOCIAL NETWORKS

Title: EXAMINING THE DIFFUSION OF USER-GENERATED CONTENT IN ONLINE SOCIAL NETWORKS

Oh, Jeong-ha; Susarla, Anjana; Tan, Yong

ESSAYS ON ONLINE REVIEWS: THE RELATIONSHIPS BETWEEN REVIEWERS, REVIEWS, AND PRODUCT SALES, AND THE TEMPORAL PATTERNS OF ONLINE REVIEWS

Title: ESSAYS ON ONLINE REVIEWS: THE RELATIONSHIPS BETWEEN REVIEWERS, REVIEWS,AND PRODUCT SALES, AND THE TEMPORAL PATTERNS OF ONLINE REVIEWS

Shen, Wenqi

E-CONTRACT DOCTRINE 2.0: STANDARD FORM CONTRACTING IN THE AGE OF ONLINE USER PARTICIPATION

Title: E-CONTRACT DOCTRINE 2.0: STANDARD FORM CONTRACTING IN THE AGE OF ONLINEUSER PARTICIPATION

Becher, Shmuel; Zarsky, Tal

THE IMPACT OF THE INTERNET ON THE SALESDISTRIBUTION: THE ROLE OF PRODUCT ATTRIBUTES

Title: THE IMPACT OF THE INTERNET ON THE SALESDISTRIBUTION: THE ROLE OF PRODUCT ATTRIBUTES

Rahman, Mohammad; Hahn, Jungpil

Tax Sensitivity and Home State Preferences in Internet Purchasing

Title: Tax Sensitivity and Home State Preferences in Internet Purchasing

Ellison, Glenn; Ellison, Sara Fisher

The Internet and Local Wages: Convergence or Divergence?

Title: The Internet and Local Wages: Convergence or Divergence?

Forman, Chris; Goldfarb, Avi; Greenstein, Shane

The Wealth-Consumption Ratio

Title: The Wealth-Consumption Ratio

Van Nieuwerburgh, Stijn; Lustig, Hanno; Verdelhan, Adrien

Abstract: To measure the wealth-consumption ratio, we estimate an exponentiallyaffine model of the stochastic discount factor on bond yields and stockreturns. We use that discount factor to compute the no-arbitrage priceof a claim to aggregate US consumption. Our estimates indicate thattotal wealth is much safer than stock market wealth. The consumptionrisk premium is only 2.2 percent, substantially below the equity riskpremium of 6.9 percent. As a result, our estimate of thewealth-consumption ratio is much higher than the price-dividend ratio onstocks throughout the post-war period. The high wealth-consumption ratioimplies that the average US household has a lot of wealth, most of ithuman wealth. A variance decomposition of the wealth-consumption ratioshows less return predictability than for stocks, and some of the returnpredictability is for future interest rates not future excess returns.We conclude that the properties of the average US household’sportfolio are more similar to those of a long-maturity bond than thoseof stocks. The differences that we find between the risk-returncharacteristics of equity and total wealth suggest that equity is aspecial asset class.

Technological Change and the Growing Inequality in Managerial Compensation

Title: Technological Change and the Growing Inequality in Managerial Compensation

Van Nieuwerburgh, Stijn; Lustig, Hanno; Syverson, Chad

Abstract: Three of the most fundamental changes in US corporations since the early1970s have been (1) the increased importance of organizational capitalin production, (2) the increase in managerial income inequality andpay-performance sensitivity, and (3) the secular decrease in labormarket reallocation. Our paper develops a simple explanation for thesechanges: a shift in the composition of productivity growth away fromvintage-specific to general growth. This shift has stimulated theaccumulation of organizational capital in existing firms and reduced theneed for reallocating workers to new firms. We characterize the optimalmanagerial compensation contract when firms accumulate organizationalcapital but risk-averse managers cannot commit to staying with the firm.A calibrated version of the model reproduces the increase in managerialcompensation inequality and the increased sensitivity of pay toperformance in the data over the last three decades.

On the Economic Sources of Stock Market Volatility

Title: On the Economic Sources of Stock Market Volatility

Engle, Robert; Ghysels, Eric; Sohn, Bumjean

Abstract: We revisit the relation between stock market volatility andmacroeconomic activity using a new class of component models thatdistinguish short run from secular movements. We combine insights fromEngle and Rangel (2007) and the recent work on mixed data sampling(MIDAS), as in e.g. Ghysels, Santa-Clara, and Valkanov (2005). The newclass of models is called GARCH-MIDAS, since it uses a mean revertingunit daily GARCH process, similar to Engle and Rangel (2007), and aMIDAS polynomial which applies to monthly, quarterly, or bi-annualmacroeconomic or financial variables. We study long historical dataseries of aggregate stock market volatility, starting in the 19thcentury, as in Schwert (1989). We formulate models with the long termcomponent driven by inflation and industrial production growth that areat par in terms of out-of-sample prediction for horizons of one quarterand out-perform more traditional time series volatility models at longerhorizons. Hence, imputing economic fundamentals into volatility modelspays off in terms of long horizon forecasting. We also find that at adaily level, inflation and industrial production growth, account forbetween 10 % and 35 % of one-day ahead volatility prediction. Hence,macroeconomic fundamentals play a significant role even at shorthorizons. Unfortunately, all the models - purely time series ones aswell as those driven by economic variables - feature structural breaksover the entire sample spanning roughly a century and a half of dailydata. Consequently, our analysis also focuses on subsamples - pre-WWI,the Great Depression era, and post-WWII (also split to examine the socalled Great Moderation). Our main findings remain valid across subsamples.

Priced Risk and Asymmetric Volatility in the Cross-Section of Skewness

Title: Priced Risk and Asymmetric Volatility in the Cross-Section of Skewness

Engle, Robert; Mistry, Abhishek

Abstract: We investigate the sources of skewness in aggregate risk-factors and thecross-section of stock returns. In an ICAPM setting with conditionalvolatility, we find theoretical time series predictions on therelationships among volatility, returns, and skewness for priced riskfactors. Market returns resemble these predictions; however, size,book-to- market, and momentum factor returns show alternative behavior,leading us to conclude these factors are not priced risks. We linkaggregate risk and skewness to individual stocks and find empiricallythat the risk aversion effect manifests in individual stock skewness.Additionally, we find several firm characteristics that explain stockskewness. Smaller firms, value firms, highly levered firms, and firmswith poor credit ratings have more positive skewness.

Semiparametric vector MEM

Title: Semiparametric vector MEM

Engle, Robert; Cipollini, Fabrizio; Gallo, Giampiero

Abstract: In financial time series analysis we encounter several instances ofnon–negative valued processes (volumes, trades, durations,realized volatility, daily range, and so on) which exhibit clusteringand can be modeled as the product of a vector of conditionallyautoregressive scale factors and a multivariate iid innovation process(vector Multiplicative Error Model). Two novel points are introduced inthis paper relative to previous suggestions: a more generalspecification which sets this vector MEM apart from an equation byequation specification; and the adoption of a GMM-based approach whichbypasses the complicated issue of specifying a general multivariatenon–negative valued innovation process. A vMEM for volumes, numberof trades and realized volatility reveals empirical support for adynamically interdependent pattern of relationships among the variableson a number of NYSE stocks.

Term structure of risk, the role of Known and Unknown Risks and Non-stationary Distributions

Title: Term structure of risk, the role of Known and Unknown Risks andNon-stationary Distributions

Engle, Robert; Colacito, Riccardo

Abstract: In this paper we document the presence of a term structure of risk andwe propose how to measure it using alternative models to forecastvolatility and the Value at Risk at different horizons. We then quantifythe benefits of an investor that is aware of the existence of a termstructure of risk in the context of an asset allocation exercise.

A component model for dynamic correlations

Title: A component model for dynamic correlations

Engle, Robert; Colacito, Riccardo; Ghysels, Eric

Abstract: The idea of component models for volatility is extended to dynamiccorrelations. We propose a model of dynamic correlations with a short-and long-run component specification. We call this class of modelsDCC-MIDAS as the key ingredients are a combination of the Engle (2002)DCC model, the Engle and Lee (1999) component GARCH model to replace theoriginal DCC dynamics with a component specification and the Engle,Ghysels, and Sohn (2006) GARCH-MIDAS component specification that allowsus to extract a long-run correlation component via mixed data sampling.We provide a comprehensive econometric analysis of the new class ofmodels, including conditions for positive semi-definiteness, and provideextensive empirical evidence that supports the model specification.

Dynamic Equicorrelation

Title: Dynamic Equicorrelation

Engle, Robert; Kelly, Bryan

Abstract: A new covariance matrix estimator is proposed under the assumption thatat every time period all pairwise correlations are equal. Thisassumption, which is pragmati- cally applied in various areas offinance, makes it possible to estimate arbitrarily large covariancematrices with ease. The model, called DECO, is a special case of the CCCand DCC models which involve first adjusting for individual volatilitiesand then estimating the correlations. A QMLE result shows that DECO cancontinue to give consistent parameter estimates when the equicorrelationassumption is violated. Generalizations to block equicorrelationstructures, models with exogenous variables, and alternativespecifications are explored and diagnostic tests are proposed.Estimation is evaluated by Monte Carlo and using US stock return data.

A Cross-Sectional Investigation of the Conditional ICAPM

Title: A Cross-Sectional Investigation of the Conditional ICAPM

Engle, Robert; Bali, Turan

Abstract: This paper provides a cross-sectional investigation of the conditionaland unconditional intertemporal capital asset pricing model (ICAPM). Theresults indicate that estimating the conditional ICAPM with a pooledpanel of time series and cross-sectional data in a multivariateGARCH-in-mean framework is crucial in identifying the positiverisk-return tradeoff. Different from the traditional literature, thepaper decomposes the aggregate stock market portfolio into tenbook-to-market portfolios and then estimates a cross-sectionallyconsistent slope coefficient on the conditional variance-covariancematrix. The riskaversion coefficient, restricted to be the same acrossall portfolios, is estimated to be positive and highly significant. Thisis the first study testing the cross-sectional consistency of theintertemporal relation by estimating the multivariate GARCH-in-meanmodel with different slopes. The statistical results indicate theequality of slope coefficients across all portfolios, supporting theempirical validity and sufficiency of the conditional ICAPM. The paperalso provides evidence that the time-varying conditional covariances canexplain the value premium because the average risk-adjusted returndifference between the value and growth portfolios is economically andstatistically insignificant within the conditional ICAPM framework.

A MEM-based Analysis of Volatility Spillovers in East Asian Financial Markets

Title: A MEM-based Analysis of Volatility Spillovers in East Asian Financial Markets

Engle, Robert; Gallo, Giampiero; Velucchi, Margherita

Abstract: Transmission mechanisms in financial markets reflect the degree ofintegration of capital markets, as well as the relative importance ofreal economies. Market volatility has components which may behavedifferently across quiet and turbulent periods, but appear to behave insimilar ways from market to market. In this paper we suggest aMultiplicative Error Model (MEM) approach to study volatility spilloversamong a set of markets, using as a proxy, the market daily range. Wemodel the dynamics of the expected volatility of one market includinginteractions with the past daily ranges of other markets, building afully interdependent model. We analyze eight East Asian markets in theperiod 1995-2006, devoting particular attention to the treatment of the1997-1998 turbulent period. We find no evidence of independent marketswhile several interdependence relationships can be stressed. Hong Kongturns out to be the most important market while Taiwan seems to havesuffered quite limited effects from the crisis. Impulse responsefunctions and multiperiod forecast profiles are developed and suggest abuild-up in the spillover effects.

Fire Sales, Foreign Entry and Bank Liquidity

Title: Fire Sales, Foreign Entry and Bank Liquidity

Acharya, Viral; Shin, Hyun Song; Yorulmazer, Tanju

Abstract: Bank liquidity is a crucial determinant of the severity of bankingcrises. We consider the effect of fire sales and foreign entry duringcrises on banks' ex-ante choice of liquid asset holdings. In a settingwith limited pledgeability of risky cash flows and differentialexpertise between banks and outsiders in employing banking assets, themarket for assets clears only at fire-sale prices following the onset ofa crisis - and outsiders may enter the market if prices fallsufficiently low. While fire sales make it attractive for banks to holdliquid assets, foreign entry reduces this incentive. We show that inthis setting, bank liquidity is counter-cyclical whereas bank capitalmeasured as bank profits is pro-cyclical. We derive conditions underwhich privately optimal levels of bank liquidity are higher or lowerthan benchmark levels that maximize total output of the banking sector.We present and discuss evidence on bank liquidity that is consistentwith model predictions.

Labor Laws and Innovation

Title: Labor Laws and Innovation

Acharya, Viral; Baghai-Wadji, Ramin; Subramanian, Krishnamurthy

Abstract: Can stringent labor laws be e¢ cient? Possibly, if they providefirms with a commitment device to not punish employees' short-runfailures and thereby spur the pursuit of value-maximizing innovativeactivities. In this paper, we provide empirical evidence that stronglabor laws indeed appear to have an ex ante positive incentive effect byencouraging the innovative pursuits of firms and their employees. Usingpatents and citations as proxies for innovation and a time-varying indexof labor laws, we find that innovation is fostered by stringent laborlaws, especially by laws governing dismissal of employees. We providethis evidence using levels-on-levels, changes-on-changes, and finallydifference-in-difference regressions that exploit staggeredcountry-level law changes. We also find that stringent labor lawsdisproportionately influence innovation in the more innovation-intensivesectors of the economy. Finally, we find that while the overall effectof stringent labor laws is to dampen economic growth, laws that governdismissal of employees are an exception: stringent laws governingdismissal promote economic growth, consistent with the evidence thatthey encourage firm-level innovation.

The Internal Governance of Firms

Title: The Internal Governance of Firms

Acharya, Viral; Myers, Stewart; Rajan, Raghuram

Abstract: We develop a model of internal governance where the self-serving actionsof top management are limited by the potential reaction of subordinates.We find that internal governance can mitigate agency problems and ensurefirms have substantial value, even without any external governance.Internal governance seems to work best when both top management andsubordinates are important to value creation. We then allow forgovernance provided by external financiers and find situations whereexternal governance, even if crude and uninformed, complements internalgovernance in improving efficiency. Interestingly, this allows us todevelop a theory of dividend policy, where dividends are paid byself-interested CEOs to maintain a balance between internal and externalcontrol. Finally, we explore how the internal organization of firms maybe structured to enhance the role of internal governance. Our papercould explain why young firms with limited external oversight, and firmsin countries with poor external governance, can have substantial value,and why improving external governance may not be a panacea for allgovernance problems.

Corporate Governance and Value Creation: Evidence from Private Equity

Title: Corporate Governance and Value Creation: Evidence from Private Equity

Acharya, Viral; Hahn, Moritz; Kehoe, Conor

Abstract: We examine deal-level data on private equity transactions in the UKinitiated during the period 1996 to 2004 by mature private equityhouses. We un-lever the deal-level equity return and adjust for(un-levered) return to quoted peers to extract a measure of"alpha" or abnormal performance of the deal. The alpha issignificantly positive on average and robust during sector downturns. Inthe cross-section of deals, higher alpha is related to greaterimprovement in EBITDA to Sales ratio (margin) and greater growth inEBITDA multiple during the private phase, relative to that of quotedpeers. In particular, deals with higher alpha either grow their marginsmore substantially, and/or grow multiples more substantially, whilstexpanding their revenues only in line with the sector. Based oninterviews with general partners involved with the deals, we find thatdeals with higher alpha and higher margin growth are associated withgreater intensity of engagement of private equity houses during theearly phase of the deal, employment of value-creation initiatives forproductivity and organic growth, and complementing top management withexternal support. Overall, our results are consistent with matureprivate equity houses creating value for portfolio companies throughactive ownership and governance.

Creditor rights and corporate risk-taking

Title: Creditor rights and corporate risk-taking

Acharya, Viral; Amihud, Yakov; Litov, Lubomir

Abstract: We analyze the link between creditor rights and firms’ investmentpolicy, proposing that stronger creditor rights in bankruptcy reducecorporate risk-taking. Employing country-level data, we find thatstronger creditor rights are associated with a greater propensity offirms to engage in diversifying mergers, and this propensity changes inresponse to changes in the country creditor rights. Also, in countrieswith stronger creditor rights, operating risk of firms is lower, andacquirers with low-recovery assets prefer targets with high-recoveryassets. These relationships are strongest in countries where managementis dismissed in reorganization, suggesting a managerial agency effect.Our results question the value of strong creditor rights, which may haveadverse effect on firms by inhibiting them from undertaking risky investments.

Rollover Risk and Market Freezes

Title: Rollover Risk and Market Freezes

Acharya, Viral; Gale, Douglas; Yorulmazer, Tanju

Abstract: The sub-prime crisis of 2007 and 2008 has been characterized by a suddenfreeze in the market for short-term, secured borrowing. We present amodel that can explain a sudden collapse in the amount that can beborrowed against assets with little credit risk. The borrowing in thismodel takes the form of asset-backed commercial paper that has to berolled over several times before the underlying assets mature and theirtrue value is revealed. In the event of default, the creditors (holdersof commercial paper) can seize the collateral. We assume that there is asmall cost of liquidating the assets. The debt capacity of the assets(the maximum amount that can be borrowed using the assets as collateral)depends on how information about the quality of the asset is revealed.In one scenario, there is a constant probability that "badnews" is revealed each period and, in the absence of bad news, thevalue of the assets is high. We call this the "optimistic"scenario because, in the absence of bad news, the expected value of theassets is increasing over time. By contrast, in another scenario, thereis a constant probability that "good news" is revealed eachperiod and, in the absence of good news, the value of the assets is low.We call this the "pessimistic" scenario because, in theabsence of good news, the expected value of the assets is decreasingover time. In the optimistic scenario, the debt capacity of the assetsis equal to the fundamental value (the expected NPV), whereas in thepessimistic scenario, the debt capacity is below the fundamental valueand is decreasing in the liquidation cost and frequency of rollovers. Inthe limit, as the number of rollovers becomes unbounded, the debtcapacity goes to zero even for an arbitrarily small default risk. Ourmodel explains why markets for rollover debt, such as asset-backedcommercial paper, may experience sudden freezes. The model also providesan explicit formula for the haircut in secured borrowing or repo transactions.

A Theory of Slow-Moving Capital and Contagion

Title: A Theory of Slow-Moving Capital and Contagion

Acharya, Viral; Shin, Hyun Song; Yorulmazer, Tanju

Abstract: Fire sales that occur during crises beg the question of why sufficientoutside capital does not move in quickly to take advantage of firesales, or in other words, why outside capital is so"slow-moving". We propose an answer to this puzzle in thecontext of an equilibrium model of capital allocation. Keeping capitalin liquid form in anticipation of possible fire sales entails costs interms of foregone profitable investments. Set against this, those sameprofitable investments are rendered illiquid in future due to agencyproblems embedded with expertise. We show that a robust consequence ofthis trade-off between making investments today and waiting forarbitrage opportunities in future is the combination of occasional firesales and limited stand-by capital that moves in only if fire-salediscounts are sufficiently deep. An extension of our model to severaltypes of investments gives rise to a novel channel for contagion wheresufficiently adverse shocks to one type can induce fire sales in othertypes that are fundamentally unrelated, provided arbitrage activity inthese investments is sourced from a common pool of capital.

Endogenous Information Flows and the Clustering of Announcements

Title: Endogenous Information Flows and the Clustering of Announcements

Acharya, Viral; DeMarzo, Peter; Kremer, Ilan

Abstract: We consider the release of information by a firm when the manager hasdiscretion regarding the timing of its release. While it is well knownthat firms appear to delay the release of bad news, we examine howexternal information about the state of the economy (or the industry)affects this decision. We develop a dynamic model of strategicdisclosure in which a firm may privately receive information at a timethat is random (and independent of the state of the economy). Becauseinvestors are uncertain regarding whether and when the firm has receivedinformation, the firm will not necessarily disclose the informationimmediately. We show that bad news about the economy can trigger theimmediate release of information by firms. Conversely, good news aboutthe economy can slow the release of information by firms. As a result,the release of negative information tends to be clustered. Surprisingly,this result holds only when firms can preempt the arrival of externalinformation by disclosing their own information first. These resultshave implications for conditional variance and skewness of stock andmarket returns.

Does Hedging Affect Commodity Prices? The Role of Producer Default Risk

Title: Does Hedging Affect Commodity Prices? The Role of Producer Default Risk

Acharya, Viral; Lochstoer, Lars; Ramadorai, Tarun

Abstract: Do hedging and speculative activity in commodity futures affect spotprices? Yes, when commodity producers have hedging needs. We build amodel in which producers are risk-averse to future cash flow variabilityand hedge using futures contracts. Increases in speculative demand forfutures reduces the cost of hedging, allowing producers to hedge moreand hold larger inventories. This pushes spot prices higher. Reductionsin speculative demand for futures have the opposite effects. The dataprovide support for the hedging channel we identify - oil and gasproducers - hedging demands (proxied by their default risk), forecastspot prices, futures prices and producers' inventories.

Is CEO Pay Really Inefficient? A Survey of New Optimal Contracting Theories

Title: Is CEO Pay Really Inefficient? A Survey of New Optimal Contracting Theories

Gabaix, Xavier; Edmans, Alex

Abstract: Bebchuk and Fried (2004) argue that executive compensation is set byCEOs themselves rather than boards on behalf of shareholders, since manyfeatures of observed pay packages may appear inconsistent with standardoptimal contracting theories. However, it may be that simple models donot capture several complexities of real-life settings. This articlesurveys recent theories that extend traditional frameworks toincorporate these dimensions, and show that the above features can befully consistent with efficiency. For example, optimal contractingtheories can explain the recent rapid increase in pay, the low level ofincentives and their negative scaling with firm size, pay-for-luck, thewidespread use of options (as opposed to stock), severance pay and debtcompensation, and the insensitivity of incentives to risk.

Maxing Out: Stocks as Lotteries and the Cross-Section of Expected Returns

Title: Maxing Out: Stocks as Lotteries and the Cross-Section of Expected Returns

Whitelaw, Robert; Bali, Turan; Cakici, Nusret

Abstract: Motivated by existing evidence of a preference among investors forassets with lottery-like payoffs and that many investors are poorlydiversified, we investigate the significance of extreme positive returnsin the cross-sectional pricing of stocks. Portfolio-level analyses andfirm-level cross-sectional regressions indicate a negative andsignificant relation between the maximum daily return over the past onemonth(MAX) and expected stock returns. Average raw and risk-adjustedreturn differences between stocks in the lowest and highest MAX decilesexceed 1% per month. These results are robust to controls for size,book-to-market, momentum, short-term reversals, liquidity, and skewness.Of particular interest, including MAX generally subsumes or reverses thepuzzling negative relation between returns and idiosyncratic volatilityrecently documented in Ang et al. (2006, 2008).

Competition and the Structure of Vertical Relationships in Capital Markets

Title: Competition and the Structure of Vertical Relationships in Capital Markets

Ljungqvist, Alexander; Asker, John

Abstract: We document that firms appear disinclined to share underwriters withother firms in the same industry. We show that this disinclination isevident only when firms engage in product-market competition. This leadsus to suggest that concerns about information leakage may motivate thepatterns we see in the data. We discuss how these effects help usunderstand how the investment banking industry is structured, how bankscompete, and how prices are set. At each step we exploit sources ofexogenous variation that correspond to specific margins on which theeffects of interest directly influence incentives and choices.

Informational Hold-up and Performance Persistence in Venture Capital

Title: Informational Hold-up and Performance Persistence in Venture Capital

Ljungqvist, Alexander; Hochberg, Yael; Vissing-Jorgensen, Annette

Abstract: We propose and test a theory of learning and informational hold-up inthe venture capital market. The model predicts that higher returns onthe current fund increase the probability that a VC will raise afollow-on fund, the size of the follow-on fund, and the performance feeinvestors are charged in the follow-on fund. If learning is asymmetric,such that incumbent investors learn more about fund manager skill thanpotential new investors, the model also predicts persistence in returns,poor performance among first-time funds, persistence in investors fromfund to fund, and over-subscription in follow-on funds raised bysuccessful fund managers. Our empirical evidence is consistent withthese predictions. The model provides a unified framework forunderstanding a series of empirical facts about the venture capital industry.

Testing Asymmetric-Information Asset Pricing Models

Title: Testing Asymmetric-Information Asset Pricing Models

Ljungqvist, Alexander; Kelly, Bryan

Abstract: We test models of asset pricing under asymmetric information usingplausibly exogenous variation in the supply of information caused by theclosure or restructuring of brokerage firms’ research operations.Consistent with predictions derived from a Grossman and Stiglitz-typemodel, share prices and uninformed investors’ demands fall asinformation asymmetry increases. Cross-sectional tests support thecomparative statics. Prices and uninformed demand experience largerdeclines, the more investors are uninformed, the larger and morevariable is turnover, the more uncertain is the asset’s payoff,and the noisier is the better-informed investors’ signal. We showthat prices fall because expected returns become more sensitive to aliquidity-risk factor.

Risk Premia in International Equity Markets Revisited

Title: Risk Premia in International Equity Markets Revisited

Brown, Stephen; Hiraki, Takato; Arakawa, Kiyoshi; Ohno, Saburo

Abstract: Recent evidence suggests that global equity markets are becoming morerisky. We find that much of the apparent increase in internationalvariance and covariance of returns can be attributed to systematicvariations in global risk premia correlated across markets, rather thanto any fundamental change in the risk attributes of these markets. Thisresult has interest both for practitioners and for those interested inmodeling global asset prices.

Tractability and Detail-Neutrality in Incentive Contracting

Title: Tractability and Detail-Neutrality in Incentive Contracting

Gabaix, Xavier; Edmans, Alex

Abstract: This paper identifies a broad class of situations in which the contractis both attainable in closed form and "detail-neutral". Thecontract's functional form is independent of the noise distribution andreservation utility; moreover, when the cost of effort is pecuniary, thecontract is linear in output regardless of the agent's utility function.Our contract holds in both continuous time and a discrete-time, multi-period setting where action follows noise in each period. The tractablecontracts of Holmstrom and Milgrom (1987) can thus be achieved insettings that do not require exponential utility, Gaussian noise orcontinuous time. Our results also suggest that incentive schemes neednot depend on complex details of the particular setting, a number ofwhich (e.g. agent's risk aversion) are difficult for the principal toobserve. The proof techniques use the notion of relative dispersion andsubdifferentials to avoid relying on the first-order approach, and maybe of methodological interest.

Using Samples of Unequal Length in Generalized Method of Moments Estimation

Title: Using Samples of Unequal Length in Generalized Method of Moments Estimation

Lynch, Anthony; Wachter, Jessica

Abstract: Many applications in financial economics use data series with differentstarting or ending dates. This paper describes estimation methods, basedon the generalized method of moments (GMM), which make use of allavailable data for each moment condition. We introduce twoasymptotically equivalent estimators that are consistent, asymptoticallynormal, and more efficient asymptotically than standard GMM. We applythese methods to estimating predictive regressions in international dataand show that the use of the full sample affects point estimates andstandard errors for both assets with data available for the full periodand assets with data available for a subset of the period. Monte Carloexperiments demonstrate that reductions hold for small-sample standarderrors as well as asymptotic ones. These methods are extended to moregeneral patterns of missing data, and are shown to be more efficientthan estimators that ignore intervals of the data, and thus moreefficient than standard GMM.

Corporate Governance, Product Market Competition, and Equity Prices

Title: Corporate Governance, Product Market Competition, and Equity Prices

Giroud, Xavier; Mueller, Holger

Abstract: This paper examines the hypothesis that firms in competitive industriesshould benefit relatively less from good governance, while firms innon-competitive industries–where lack of competitive pressurefails to enforce discipline on managers–should benefit relativelymore. Whether we look at the effects of governance on long-horizon stockreturns, firm value, or operating performance, we consistently find thesame pattern: The effect is monotonic in the degree of competition, itis small and insignificant in competitive industries, and it is largeand significant in non-competitive industries. By implication, theeffect of governance (in non-competitive industries) reported in thispaper is stronger than what has been previously reported in Gompers,Ishii, and Metrick (2003, “GIM”) and subsequent work, whodocument the average effect across all industries. For instance,GIM’s hedge portfolio–provided it only includes firms innon-competitive industries–earns a monthly alpha of 1.47%, whichis twice as large as the alpha reported in GIM. The alpha remains largeand significant even if the sample period is extended until 2006. Wealso revisit the argument that investors in the 1990s anticipated theeffect of governance, implying that the alpha earned by GIM’shedge portfolio is likely due to an omitted risk factor. We find thatwhile investors were indeed not surprised on average, theyunderestimated the effect of governance in non-competitive industries,the very industries in which governance has a significant effect in thefirst place.

Competition and Bias

Title: Competition and Bias

Kacperczyk, Marcin; Hong, Harrison

Abstract: We attempt to measure the effect of competition on bias in the contextof analyst earnings forecasts, which are known to be excessivelyoptimistic due to conflicts of interest. Our instrument for competitionis mergers of brokerage houses, which result in the firing of analystsbecause of redundancy (e.g., one of the two oil analysts is let go) andother reasons such as culture clash. We use this decrease in analystcoverage for stocks covered by both merging houses before the merger(the treatment sample) to measure the causal effect of competition onbias. We find the treatment sample simultaneously experiences a decreasein analyst coverage and an increase in optimism bias the year after themerger relative to a control group of stocks, consistent withcompetition reducing bias. The implied economic effect from our naturalexperiment is significantly larger than estimates from OLS regressionsthat do not correct for the endogeneity of coverage. And this effect ismuch more significant for stocks with little initial analyst coverage or competition.

Is a Higher Calling Enough? Incentive Compensation in the Church

Title: Is a Higher Calling Enough? Incentive Compensation in the Church

Yermack, David

Abstract: We study the compensation and productivity of more than 2,000 Methodistministers in a 43-year panel data set. The church appears to usepay-for-performance incentives for its clergy, as their compensationfollows a sharing rule by which pastors receive approximately 3 percentof the incremental revenue from membership increases. The elasticitybetween ministers’ pay and parish size is similar to the firm sizeelasticity of compensation for public company CEOs. Among a range ofpossible performance measures, those with the greatest informativenessabout pastoral effort are linked most closely to compensation.

Deductio ad absurdum: CEOs donating their own stock to their own family foundations

Title: Deductio ad absurdum: CEOs donating their own stock to their own family foundations

Yermack, David

Abstract: I study large charitable stock gifts by Chairmen and CEOs of publiccompanies. These gifts, which are not subject to insider trading law,often occur just before sharp declines in their companies’ shareprices. This timing is more pronounced when executives donate their ownshares to their own family foundations. Evidence related to reportingdelays and seasonal patterns suggests that some CEOs backdate stockgifts to increase personal income tax benefits. CEOs’ familyfoundations hold donated stock for long periods rather thandiversifying, permitting CEOs to continue voting the shares.

Price Dispersion in OTC Markets: A New Measure of Liquidity

Title: Price Dispersion in OTC Markets: A New Measure of Liquidity

Subrahmanyam, Marti; Nashikkar, Amrut; Jankowitsch, Rainer

Abstract: In this paper, we model price dispersion effects in over-the-counter(OTC) markets to show that, in the presence of inventory risk fordealers and search costs for investors, traded prices may deviate fromthe expected market valuation of an asset. We interpret this deviationas a liquidity effect and develop a new liquidity measure quantifyingthe price dispersion in the context of the US corporate bond market.This market offers a unique opportunity to study liquidity effectssince, from October 2004 onwards, all OTC transactions in this markethave to be reported to a common database known as the Trade Reportingand Compliance Engine (TRACE). Furthermore, market-wide average pricequotes are available from Markit Group Limited, a financial informationprovider. Thus, it is possible, for the first time, to directly observedeviations between transaction prices and the expected market valuationof securities. We quantify and analyze our new liquidity measure forthis market and find significant price dispersion effects that cannot besimply captured by bid-ask spreads. We show that our new measure isindeed related to liquidity by regressing it on commonly-used liquidityproxies and find a strong relation between our proposed liquiditymeasure and bond characteristics, as well as trading activity variables.Furthermore, we evaluate the reliability of end-of-day marks thattraders use to value their positions. Our evidence suggests that theprice deviations from expected market valuations are significantlylarger and more volatile than previously assumed. Overall, the resultspresented here improve our understanding of the drivers of liquidity andare important for many applications in OTC markets, in general.

The structure and formation of business groups: Evidence from Korean Chaebols

Title: The structure and formation of business groups: Evidence from Korean Chaebols

Subrahmanyam, Marti; Almeida, Heitor; Wolfenzon, Daniel; Park, Sang Yong

Abstract: In this paper we study the determinants of business groups’ownership structure using a unique dataset of Korean chaebols, and a setof new metrics of group ownership structure. We find that chaebols growvertically (that is, pyramidally) as the family uses well-establishedgroup firms (“central firms”) to set up and acquire firmsthat have low profitability and high capital requirements. Chaebols growhorizontally (that is, using direct family ownership) when the familyacquires firms that are highly profitable and require less capital. Wealso provide direct evidence that the low profitability of firms ownedthrough pyramids is partly due to a selection effect: the profitabilityof new group firms in the year before they are added to the grouppredicts whether they are added to pyramids or controlled directly bythe family. The relationships between pyramids, profitability, andcapital intensity that we uncover do not appear to be due to theseparation between ownership and control induced by pyramids. Finally,we find that the selection of low-profitability firms into pyramidscauses the group’s central firms to trade at a discount relativeto other public group firms. Taken together, these results suggest thatcontrolling families optimally design the ownership structure of thegroup in a manner that is consistent with theory.

Limited arbitrage and liquidity in the market for credit risk

Title: Limited arbitrage and liquidity in the market for credit risk

Subrahmanyam, Marti; Nashikkar, Amrut; Mahanti, Sriketan

Abstract: Recent research has shown that default risk accounts for only a part ofthe total yield spread on risky corporate bonds relative to theirrisk-less benchmarks. One candidate for the unexplained portion of thespread is a premium for liquidity. We investigate this possibility byrelating the liquidity of corporate bonds to the basis between thecredit default swap (CDS) price of the issuer and the parequivalentcorporate bond yield spread. The liquidity of a bond is measured using arecently developed measure called latent liquidity, which is defined asthe weighted average turnover of funds holding the bond, where theweights are their fractional holdings of the bond. We find that bondswith higher latent liquidity are more expensive relative to their CDScontracts, after controlling for other realized measures of liquidity.However highly illiquid bonds with high default risk are also expensive,consistent with limits to arbitrage between CDS and bond markets, due tothe higher costs of “shorting” illiquid bonds. Additionally,we document the positive effects of liquidity in the CDS market on theCDS-bond basis. We also find that several firm-level variables relatedto credit risk affect the basis, indicating that the CDS price does notfully capture the credit risk of the bond.

Group Affiliation and the Performance of Initial Public Offerings in the Indian Stock Market

Title: Group Affiliation and the Performance of Initial Public Offerings in theIndian Stock Market

Subrahmanyam, Marti; Marisetty, Vijaya

Abstract: We document the effects of group affiliation on the initial performanceof 2,713 Initial Public Offerings (IPOs) in India under three regulatoryregimes during the period 1990-2004. We distinguish between twocompeting hypotheses regarding group affiliation: the“certification” and the “tunneling” hypotheses.We lend support to the latter by showing that the underpricing ofbusiness group companies is higher than that of stand-alone companies.Furthermore, we find that the long run performance of IPOs, in general,is negative. We also find that Indian investors over-react to IPOs andtheir over-reaction (proxied by the oversubscription rate) explains theextent of underpricing.

Fitting vast dimensional time-varying covariance models

Title: Fitting vast dimensional time-varying covariance models

Engle, Robert; Shephard, Neil; Sheppard, Kevin

Abstract: Building models for high dimensional portfolios is important in riskmanagement and asset allocation. Here we propose a novel and fast way ofestimating models of time-varying covariances that overcome anundiagnosed incidental parameter problem which has troubled existingmethods when applied to hundreds or even thousands of assets. Indeed wecan handle the case where the cross-sectional dimension is larger thanthe time series one. The theory of this new strategy is developed insome detail, allowing formal hypothesis testing to be carried out onthese models. Simulations are used to explore the performance of thisinference strategy while empirical examples are reported which show thestrength of this method. The out of sample hedging performance ofvarious models estimated using this method are compared.

Financial Globalization and the Transmission of Credit Supply Shocks: Evidence from an Emerging Market

Title: Financial Globalization and the Transmission of Credit Supply Shocks:Evidence from an Emerging Market

Schnabl, Philipp

Abstract: This paper analyzes whether equity holdings of international lendersaffect the transmission of credit supply shocks from developed countriesto emerging markets. I exploit the 1998 Russian debt default as anexogenous credit supply shock to international lenders and trace out theimpact on bank lending in Peru. I find that after the shockinternational lenders with equity holdings in Peruvian banks increasedfinancing to banks in Peru, while international lenders without equityholdings reduced financing to banks in Peru. This effect could be driveneither by differential credit supply from international lenders or byheterogeneity in credit demand across banks. I control for credit demandby examining firms that have loans from both banks with internationalequity holders and banks without international equity holders and findevidence for the credit supply explanation. The change in credit supplyhas real effects: I find a lower bankruptcy rate among firms borrowingfrom banks with international equity holders than among firms borrowingfrom banks without international equity holders. These results suggestthat equity holdings of international lenders mitigate the transmissionof credit supply shocks to emerging markets.

Predictability and ‘Good Deals’ in Currency Markets

Title: Predictability and ‘Good Deals’ in Currency Markets

Levich, Richard; Poti, Valerio

Abstract: This paper studies predictability of currency returns over the period1971-2006. To assess the economic significance of predictability, weconstruct an upper bound on the explanatory power of predictiveregressions. The upper bound is motivated by “no good-deal”restrictions that rule out unduly attractive investment opportunities.We find evidence that predictability often exceeds this bound.Excess-predictability is highest in the 1970s and tends to decrease overtime, but it is still present in the final part of the sample period.Moreover, periods of high and low predictability tend to alternate.These stylized facts pose a serious challenge to Fama’s (1970)Efficient Market Hypothesis but are consistent with Lo’s (2004)Adaptive Market Hypothesis, coupled with slow convergence towardsefficient markets. Strategies that attempt to exploitexcess-predictability are very sensitive to transaction costs but thosethat exploit monthly predictability remain attractive even afterrealistic levels of transaction costs are taken into account and are notspanned either by the Fama and French (1993) equity-based factors or bythe AFX Currency Management Index.

Corporate Governance Objectives of Labor Union Shareholders: Evidence from Proxy Voting

Title: Corporate Governance Objectives of Labor Union Shareholders: Evidencefrom Proxy Voting

Agrawal, Ashwini

Abstract: Labor union shareholders have become increasingly vocal in matters ofcorporate governance, however, their motives have been subject to muchdebate in the academic literature and business press. I examine theproxy votes of AFL-CIO pension funds in director elections of 504companies from 2003 to 2006. Using the 2005 AFL-CIO breakup as a sourceof exogenous variation in the union affiliations of workers acrossfirms, I find that AFL-CIO affiliated shareholders are significantlymore supportive of director nominees once the AFL-CIO no longerrepresents workers or represents significantly fewer workers at a givenfirm. Other institutional investors do not exhibit the same changes invoting behavior. This difference suggests that labor relations affectthe voting patterns of some union shareholders. I also find that AFL-CIOfunds are more likely to vote against directors of firms in which thereis greater frequency of plant-level conflict between labor unions andmanagement during collective bargaining and union member recruiting. Thesensitivity of director votes to union conflict, however, decreases atfirms in which the AFL-CIO no longer represents workers or representssignificantly fewer workers. The evidence suggests that AFL-CIOaffiliated shareholders vote against directors partly to support unionworker interests rather than increase shareholder value alone.

Trades of the Living Dead: Style Differences, Style Persistence and Performance of Currency Fund Managers

Title: Trades of the Living Dead: Style Differences, Style Persistence andPerformance of Currency Fund Managers

Levich, Richard; Pojarliev, Momtchil

Abstract: We make use of a new database on daily currency fund manager returnsover a three-year period, 2005-08. This higher frequency data allows usto estimate both alpha measures of performance and beta style factors ona yearly basis, which in turn allows us to test for persistence. We findno evidence to support alpha persistence; a manager’s alpha in oneyear is not significantly related to his alpha in the prior year. On theother hand, there is substantial evidence for style persistence; fundsthat rely on carry, trend or value trading or with a long/short biastoward currency volatility are likely to maintain that style in thefollowing year. In addition, we are able to examine the performance ofmanagers that survive through the entire sample period, versus thosethat drop out. We find significant differences in both the investmentstyles of living versus deceased funds, as well as their realized alphaperformance measures. We conjecture that both style differences andineffective market timing, rather than market conditions, have impactedperformance outcomes and induced some managers to close their funds.

Estimating the Implied Risk Neutral Density

Title: Estimating the Implied Risk Neutral Density

Figlewski, Stephen

Abstract: The market's risk neutral probability distribution for the value of anasset on a future date can be extracted from the prices of a set ofoptions that mature on that date, but two key technical problems arise.In order to obtain a full well-behaved density, the option market pricesmust be smoothed and interpolated, and some way must be found tocomplete the tails beyond the range spanned by the available options.This paper develops an approach that solves both problems, with acombination of smoothing techniques from the literature modified to takeaccount of the market's bid-ask spread, and a new method of completingthe density with tails drawn from a Generalized Extreme Valuedistribution. We extract twelve years of daily risk neutral densitiesfrom S&P 500 index options and find that they are quite differentfrom the lognormal densities assumed in the Black-Scholes framework, andthat their shapes change in a regular way as the underlying index moves.Our approach is quite general and has the potential to reveal valuableinsights about how information and risk preferences are incorporatedinto prices in many financial markets.

Estimating Operational Risk for Hedge Funds: The ω-Score

Title: Estimating Operational Risk for Hedge Funds: The ω-Score

Brown, Stephen; Goetzmann, William; Liang, Bing

Abstract: Using a complete set of the SEC filing information on hedge funds (FormADV) and the TASS data, we develop a quantitative model called theω-Score to measure hedge fund operational risk. The ω-Scoreis related to conflict of interest issues, concentrated ownership, andreduced leverage in the ADV data. With a statistical methodology, wefurther relate the ω-Score to readily available information suchas fund performance, volatility, size, age, and fee structures. Finally,we demonstrate that this risk score can be used to effectively predictfund failures in the future.

Estimation of Employee Stock Option Exercise Rates

Title: Estimation of Employee Stock Option Exercise Rates

Carpenter, Jennifer; Stanton, Richard; Wallace, Nancy

Abstract: This paper is the first to perform a comprehensive estimation ofemployee stock option exercise behavior and option cost to firms. Wedevelop a GMM-based methodology, robust to heteroskedasticity andcorrelation across exercises, for estimating the rate of voluntaryoption exercise as a function of the stock price path and of variousfirm and option holder characteristics. We use it to estimate anexercise function from a sample of 870,624 employee-option grants at 47publicly-traded firms between 1980-2005, finding that volatility has acounterintuitive effect, and that men exercise faster than women. Wealso estimate the rate of employment termination, which determinesforfeitures, cancellations, and forced exercises. We use the estimatedexercise and termination functions in a simulation based valuation modelto analyze the effect of different firm and option holdercharacteristics on option value, and show that the true value of theseoptions can differ substantially from values calculated using the usualFASB approximation.

The Productivity Payoff of Computers

Title: The Productivity Payoff of Computers

Bakos, Yannis

Abstract: This is a review of 'The Computer Revolution: An Economic Perspective'by Daniel E. Sichel

The Emerging Role of Electronic Marketplaces on the Internet

Title: The Emerging Role of Electronic Marketplaces on the Internet

Bakos, Yannis

An Exploratory Study of the Emerging Role of Electronic Intermediaries

Title: An Exploratory Study of the Emerging Role of Electronic Intermediaries

Bakos, Yannis; Bailey, Joseph

Abstract: It is often argued that as electronic markets lower the cost of markettransactions, traditional roles for intermediaries will be eliminated,leading to "disintermediation." We discuss the findings of anexploratory study of intermediaries in electronic markets, which suggestthat markets do not necessarily become disintermediated as they becomefacilitated by information technology. We explore thirteen case studiesof firms participating in electronic commerce and find evidence ofcertain new emerging roles for electronic intermediaries, including:aggregating, matching suppliers and customers, providing trust, andproviding inter-organizational market information. Two specific examplesare discussed in greater detail to illustrate an unsuccessful strategyfor electronic intermediation (BargainFinder) as well as a successfulone (Firefly).

Organizational PArtnerships and the Virtual Corporation

Title: Organizational PArtnerships and the Virtual Corporation

Bakos, Yannis; Brynjolfsson, Erik

Abstract: Organizations are transforming their relationships with their businesspartners. For example, instead of playing off dozens or even hundreds ofcompeting suppliers against each other, many firms are finding it moreprofitable to work closely with only a small number of"partners". While these firms generally increase their amountof outsourcing, by focusing on a small number of partners they createvalue networks that are often referred to as"value-added-partnerships", "virtual organizations"or "modular corporations". In this work we explore some causesand consequences of this transformation. We apply the economic theory ofincomplete contracts to study the optimal number of business partners,with particular attention to the role of information technology.Surprisingly, we find that organizations will often maximize profits bylimiting their options and reducing their own bargaining power. This mayseem paradoxical in an age of cheap communications costs and aggressivecompetition. However, unlike earlier studies that focused oncoordination costs, we focus on the critical importance of providingincentives for business partners. Our results spring from the need tomake it worthwhile for business partners to invest in"non-contractibles" like innovation, responsiveness andinformation sharing. Such incentives will be stronger when the number ofcompeting partners is small. The findings of the theoretical modelsappear to be consistent with observations from empirical research whichhighlight the key role of information technology in enabling this transformation.

Ownership and Investment in Electronic Networks

Title: Ownership and Investment in Electronic Networks

Bakos, Yannis; Nault, Barrie

Abstract: We employ the theory of incomplete contracts to examine the relationshipbetween ownership and investment in electronic networks such as theInternet and interorganizational information systems. Electronicnetworks represent an institutional structure that has resulted from theintroduction of information technology in industrial and consumermarkets. Ownership of electronic networks is important because itaffects the level of network-specific investments, which in turndetermine the profitability and in some cases the viability of thesenetworks. In our analysis we define an electronic network as a set ofparticipants and a portfolio of assets. The salient concept in thisperspective is the degree to which network participants areindispensable in making network assets productive. We derive three mainresults: First, if one or more assets are essential to all networkparticipants, then all the assets should be owned together. Second,participants that are indispensable to an asset essential to allparticipants should own all network assets. Third and most important, inthe absence of an indispensable participant, and as long as thecooperation of at least two participants is necessary to create value,sole ownership is never the best form of ownership for an electronicnetwork. This latter result implies that as the leading networkparticipants become more dispensable, we should see an evolution towardsforms of joint ownership.

A Pure-Jump Transaction-Level Price Model Yielding Cointegration, Leverage, and Nonsynchronous Trading Effects

Title: A Pure-Jump Transaction-Level Price Model Yielding Cointegration,Leverage, and Nonsynchronous Trading Effects

Hurvich, Clifford; Wang, Yi

Abstract: We propose a new transaction-level bivariate log-price model, whichyields fractional or standard cointegration. The model provides a linkbetween market microstructure and lower-frequency observations. The twoingredients of our model are a Long Memory Stochastic Duration processfor the waiting times between trades, and a pair of stationary noiseprocesses which determine the jump sizes in the pure-jump log-priceprocess. Our model includes feedback between the disturbances of the twolog-price series at the transaction level, which induces standard orfractional cointegration for any fixed sampling interval. We prove thatthe cointegrating parameter can be consistently estimated by theordinary least-squares estimator, and obtain a lower bound on the rateof convergence. We propose transaction-level method-of-momentsestimators of the other parameters in our model and discuss theconsistency of these estimators. We then use simulations to argue thatsuitably-modified versions of our model are able to capture a variety ofadditional properties and stylized facts, including leverage, andportfolio return autocorrelation due to nonsynchronous trading. Theability of the model to capture these effects stems in most cases fromthe fact that the model treats the (stochastic) intertrade durations ina fully endogenous way.

Reducing Buyer Search Costs: Implications for Electronic Marketplaces

Title: Reducing Buyer Search Costs: Implications for Electronic Marketplaces

Bakos, Yannis

Abstract: Information systems can serve as intermediaries between the buyers andthe sellers in a market, creating an "electronic marketplace"that lowers the buyers' cost to acquire information about seller pricesand product offerings. As a result, electronic marketplaces reduce theinefficiencies caused by buyer search costs, in the process reducing theability of sellers to extract monopolistic profits while increasing theability of markets to optimally allocate resources. This article modelsthe role of buyer search costs in markets with differentiated productofferings. The impact of reducing these search costs in analyzed in thecontext of an electronic marketplace, and the allocational efficienciessuch a reduction can bring to a differentiated market are formalized.The resulting implications for the incentives of buyers, sellers, andindependent intermediaries to invest in electronic marketplaces areexplored. Finally, the possibility to separate price information fromproduct attribute information is introduced, and the implications ofdesigning markets promoting competition along each of these dimensionare discussed.

Information Technology Spending and Economic Productivity: A review of 'The Trouble with Computers' by Thomas K. Landauer

Title: Information Technology Spending and Economic Productivity: A review of'The Trouble with Computers' by Thomas K. Landauer

Yannis, Bakos

From Vendors to Partners: Information Technology and Incomplete Contracts in Buyer-Supplier Relationships

Title: From Vendors to Partners: Information Technology and IncompleteContracts in Buyer-Supplier Relationships

Bakos, Yannis; Brynjolfsson, Erik

Abstract: As search costs and other coordination costs decline, theory predictsthat firms should optimally increase the number of suppliers with whichthey do business. Despite recent declines in these costs due toinformation technology, there is little evidence of an increase in thenumber of suppliers used. On the contrary, in many industries, firms areworking with fewer suppliers. This suggests that other forces must beaccounted for in a more complete model of buyer supplier relationships.This article uses the theory of incomplete contracts to illustrate thatincentive considerations can motivate a buyer to limit the number ofemployed suppliers. To induce suppliers to make investments that cannotbe specified and enforced in a satisfactory manner via contractualmechanism, the buyer must commit not to expropriate the ex post surplusfrom such investments. Under reasonable bargaining mechanisms, such acommitment will be more credible if the buyer can choose from feweralternative suppliers. Information technology increases the importanceof noncontractible investments by suppliers, such as quality,responsiveness, and innovation; it is shown that when such investmentsare particularly important, firms will employ fewer suppliers, and thiswill be true even when search and transaction costs are very low.

Recent Applications of Economic Theory in Information Technology Research

Title: Recent Applications of Economic Theory in Information Technology Research

Yannis, Bakos; Kemerer, C.F.

Abstract: Academicians and practitioners are becoming increasingly interested inthe economics of Information Technology (IT). In part, this intereststems from the increased role that IT now plays in the strategicthinking of most large organizations, and from the significant dollarcosts expended by these organizations on IT. Naturally enough,researchers are turning to economics as a reference discipline in theirattempt to answer questions concerning both the value added by IT andthe true cost of providing IT resources. This increased interest in theeconomics of IT is manifested in the application of a number of aspectsof economic theory in recent information systems research, leading toresults that have appeared in a wide variety of publication outlets.This article reviews this work and provides a systematic categorizationas a first step in establishing a common research tradition, and toserve as an introduction for researchers beginning work in this area.Six areas of economic theory are represented: information economics,production economics, economic models of organizational performance,industrial organization, institutional economics (agency theory andtransaction cost theory), and macroeconomic studies of IT impact. Foreach of these areas, recent work is reviewed and suggestions for futureresearch are provided.

Information Technology and Corporate Strategy: A Research Perspective

Title: Information Technology and Corporate Strategy: A Research Perspective

Bakos, Yannis; Treacy, Michael

Abstract: The use of information technology (IT) as a competitive weapon hasbecome a popular cliche; but there is still a marked lack ofunderstanding of the issues that determine the influence of informationtechnology on a particular organization and the processes that willallow a smooth coordination of technology and corporate strategy. Thisarticle surveys the major efforts to arrive at a relevant framework andattempts to integrate them in a more comprehensive viewpoint. The focusthen turns to the major research issues in understanding the impact ofinformation technology on competitive strategy.

Classification-Aware Hidden-Web Text Database Selection,

Title: Classification-Aware Hidden-Web Text Database Selection,

Ipeirotis, Panagiotis; Gravano, Luis

Abstract: Many valuable text databases on the web have noncrawlable contents thatare “hidden” behind search interfaces. Metasearchers arehelpful tools for searching over multiple such “hidden-web”text databases at once through a unified query interface. An importantstep in the metasearching process is database selection, or determiningwhich databases are the most relevant for a given user query. Thestate-of-the-art database selection techniques rely on statisticalsummaries of the database contents, generally including the databasevocabulary and associated word frequencies. Unfortunately, hidden-webtext databases typically do not export such summaries, so previousresearch has developed algorithms for constructing approximate contentsummaries from document samples extracted from the databases viaquerying.We present a novel “focused-probing” samplingalgorithm that detects the topics covered in a database and adaptivelyextracts documents that are representative of the topic coverage of thedatabase. Our algorithm is the first to construct content summaries thatinclude the frequencies of the words in the database. Unfortunately,Zipf’s law practically guarantees that for any relatively largedatabase, content summaries built from moderately sized document sampleswill fail to cover many low-frequency words; in turn, incomplete contentsummaries might negatively affect the database selection process,especially for short queries with infrequent words. To enhance thesparse document samples and improve the database selection decisions, weexploit the fact that topically similar databases tend to have similarvocabularies, so samples extracted from databases with a similar topicalfocus can complement each other. We have developed two databaseselection algorithms that exploit this observation. The first algorithmproceeds hierarchically and selects the best categories for a query, andthen sends the query to the appropriate databases in the chosencategories. The second algorithm uses “shrinkage,” astatistical technique for improving parameter estimation in the face ofsparse data, to enhance the database content summaries withcategory-specific words.We describe how to modify existing databaseselection algorithms to adaptively decide (at runtime) whether shrinkageis beneficial for a query. A thorough evaluation over a variety ofdatabases, including 315 real web databases as well as TREC data,suggests that the proposed sampling methods generate high-qualitycontent summaries and that the database selection algorithms producesignificantly more relevant database selection decisions and overallsearch results than existing algorithms.

Duplicate Record Detection: A Survey

Title: Duplicate Record Detection: A Survey

Elmagarmid, Ahmed; Panagiotis, Ipeirotis; Verykios, Vassilios

Abstract: Often, in the real world, entities have two or more representations indatabases. Duplicate records do not share a common key and/or theycontain errors that make duplicate matching a difficult task. Errors areintroduced as the result of transcription errors, incompleteinformation, lack of standard formats, or any combination of thesefactors. In this paper, we present a thorough analysis of the literatureon duplicate record detection. We cover similarity metrics that arecommonly used to detect similar field entries, and we present anextensive set of duplicate detection algorithms that can detectapproximately duplicate records in a database. We also cover multipletechniques for improving the efficiency and scalability of approximateduplicate detection algorithms. We conclude with coverage of existingtools and with a brief discussion of the big open problems in the area.

Modeling and Managing Changes in Text Databases

Title: Modeling and Managing Changes in Text Databases

Ipeirotis, Panagiotis; Ntoulas, Alexandros; Cho, Junghoo; Gravano, Luis

Abstract: Large amounts of (often valuable) information are stored inweb-accessible text databases. “Metasearchers” provideunified interfaces to query multiple such databases at once. Forefficiency, metasearchers rely on succinct statistical summaries of thedatabase contents to select the best databases for each query. So far,database selection research has largely assumed that databases arestatic, so the associated statistical summaries do not evolve over time.However, databases are rarely static and the statistical summaries thatdescribe their contents need to be updated periodically to reflectcontent changes. In this article, we first report the results of a studyshowing how the content summaries of 152 real web databases evolved overa period of 52 weeks. Then, we show how to use “survivalanalysis” techniques in general, and Cox’s proportionalhazards regression in particular, to model database changes over timeand predict when we should update each content summary. Finally, weexploit our change model to devise update schedules that keep thesummaries up to date by contacting databases only when needed, and thenwe evaluate the quality of our schedules experimentally over real web databases.

Towards a Query Optimizer for Text-Centric Tasks

Title: Towards a Query Optimizer for Text-Centric Tasks

Ipeirotis, Panagiotis; Agichtein, Eugene; Jain, Pranay; Gravano, Luis

Abstract: Text is ubiquitous and, not surprisingly, many important applicationsrely on textual data for a variety of tasks. As a notable example,information extraction applications derive structured relations fromunstructured text; as another example, focused crawlers explore the Webto locate pages about specific topics. Execution plans for text-centrictasks follow two general paradigms for processing a text database:either we can scan, or “crawl,” the text database or,alternatively, we can exploit search engine indexes and retrieve thedocuments of interest via carefully crafted queries constructed intask-specific ways. The choice between crawl- and query-based executionplans can have a substantial impact on both execution time and output“completeness” (e.g., in terms of recall). Nevertheless,this choice is typically ad hoc and based on heuristics or plainintuition. In this article, we present fundamental building blocks tomake the choice of execution plans for text-centric tasks in aninformed, cost-based way. Towards this goal, we show how to analyzequery- and crawl-based plans in terms of both execution time and outputcompleteness. We adapt results from random-graph theory and statisticsto develop a rigorous cost model for the execution plans. Our cost modelreflects the fact that the performance of the plans depends onfundamental task-specific properties of the underlying text databases.We identify these properties and present efficient techniques forestimating the associated parameters of the cost model.We also presenttwo optimization approaches for text-centric tasks that rely on thecost-model parameters and select efficient execution plans. Overall, ouroptimization approaches help build efficient execution plans for a task,resulting in significant efficiency and output completeness benefits. Wecomplement our results with a large-scale experimental evaluation forthree important text-centric tasks and over multiple real-life data sets.

QProber: A System for Automatic Classification of Hidden-Web Databases

Title: QProber: A System for Automatic Classification of Hidden-Web Databases

Ipeirotis, Panagiotis; Gravano, Luis

Abstract: The contents of many valuable Web-accessible databases are onlyavailable through search interfaces and are hence invisible totraditional Web “crawlers.” Recently, commercial Web siteshave started to manually organize Web-accessible databases intoYahoo!-like hierarchical classification schemes. Here we introduceQProber, a modular system that automates this classification process byusing a small number of query probes, generated by document classifiers.QProber can use a variety of types of classifiers to generate theprobes. To classify a database, QProber does not retrieve or inspect anydocuments or pages from the database, but rather just exploits thenumber of matches that each query probe generates at the database inquestion. We have conducted an extensive experimental evaluation ofQProber over collections of real documents, experimenting with differenttypes of document classifiers and retrieval models. We have also testedour system with over one hundred Web-accessible databases. Ourexperiments show that our system has low overhead and achieves highclassification accuracy across a variety of databases.