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Volume 62: Issue 3 (June 2007)

Why Do Firms Become Widely Held? An Analysis of the Dynamics of Corporate Ownership

Pages: 995-1028  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01229.x  |  Cited by: 147


We examine the evolution of insider ownership of IPO firms from 1970 to 2001 to understand how U.S. firms become widely held. A majority of these firms has insider ownership below 20% after 10 years. Stock market performance and liquidity play an extremely important role in ownership dynamics. Firms with stocks that are highly valued, are liquid, and have performed well experience large decreases in insider ownership and become widely held. Ownership also falls for low cash flow and high capital expenditures firms. Surprisingly, variables proxying for agency costs have limited success in explaining the evolution of insider ownership.

Efficiency and the Bear: Short Sales and Markets Around the World

Pages: 1029-1079  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01230.x  |  Cited by: 567


We analyze cross‐sectional and time‐series information from 46 equity markets around the world to consider whether short sales restrictions affect the efficiency of the market and the distributional characteristics of returns to individual stocks and market indices. We find some evidence that prices incorporate negative information faster in countries where short sales are allowed and practiced. A common conjecture by regulators is that short sales restrictions can reduce the relative severity of a market panic. We find strong evidence that in markets where short selling is either prohibited or not practiced, market returns display significantly less negative skewness.

Global Growth Opportunities and Market Integration

Pages: 1081-1137  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01231.x  |  Cited by: 248


We propose an exogenous measure of a country's growth opportunities by interacting the country's local industry mix with global price to earnings (PE) ratios. We find that these exogenous growth opportunities predict future changes in real GDP and investment in a large panel of countries. This relation is strongest in countries that have liberalized their capital accounts, equity markets, and banking systems. We also find that financial development, external finance dependence, and investor protection measures are much less important in aligning growth opportunities with growth than is capital market openness. Finally, we formulate new tests of market integration and segmentation by linking local and global PE ratios to relative economic growth.

Giving Content to Investor Sentiment: The Role of Media in the Stock Market

Pages: 1139-1168  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01232.x  |  Cited by: 2747


I quantitatively measure the interactions between the media and the stock market using daily content from a popular Wall Street Journal column. I find that high media pessimism predicts downward pressure on market prices followed by a reversion to fundamentals, and unusually high or low pessimism predicts high market trading volume. These and similar results are consistent with theoretical models of noise and liquidity traders, and are inconsistent with theories of media content as a proxy for new information about fundamental asset values, as a proxy for market volatility, or as a sideshow with no relationship to asset markets.

The Underwriter Persistence Phenomenon

Pages: 1169-1206  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01233.x  |  Cited by: 74


This study presents new evidence that initial IPO returns have persistent underwriter‐specific components. These components cannot be explained by existing measures of underwriter quality, underwriter service, or controls for several known predictors of initial IPO returns. Tests that trace the roots of persistence most broadly support theories of asymmetric information among underwriters. I present such a model, and consistent with its predictions, I find that high underpricing underwriters (1) are responsible for a majority of the partial adjustment phenomenon, (2) make more informed analyst revisions, (3) experience superior market share growth, and (4) are more likely to serve an institutional clientele.

Simple Forecasts and Paradigm Shifts

Pages: 1207-1242  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01234.x  |  Cited by: 103


We study the asset pricing implications of learning in an environment in which the true model of the world is a multivariate one, but agents update only over the class of simple univariate models. Thus, if a particular simple model does a poor job of forecasting over a period of time, it is discarded in favor of an alternative simple model. The theory yields a number of distinctive predictions for stock returns, generating forecastable variation in the magnitude of the value‐glamour return differential, in volatility, and in the skewness of returns. We validate several of these predictions empirically.

Reputation Effects in Trading on the New York Stock Exchange

Pages: 1243-1271  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01235.x  |  Cited by: 49


Theory suggests that reputations allow nonanonymous markets to attenuate adverse selection in trading. We identify instances in which New York Stock Exchange (NYSE) stocks experience trading floor relocations. Although specialists follow the stocks to their new locations, most brokers do not. We find a discernable increase in liquidity costs around a stock's relocation that is larger for stocks with higher adverse selection and greater broker turnover. We also find that floor brokers relocating with the stock obtain lower trading costs than brokers not moving and brokers beginning trading post‐move. Our results suggest that reputation plays an important role in the NYSE's liquidity provision process.

Participation Costs and the Sensitivity of Fund Flows to Past Performance

Pages: 1273-1311  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01236.x  |  Cited by: 372


We present a simple rational model to highlight the effect of investors' participation costs on the response of mutual fund flows to past fund performance. By incorporating participation costs into a model in which investors learn about managers' ability from past returns, we show that mutual funds with lower participation costs have a higher flow sensitivity to medium performance and a lower flow sensitivity to high performance than their higher‐cost peers. Using various fund characteristics as proxies for the reduction in participation costs, we provide empirical evidence supporting the model's implications for the asymmetric flow‐performance relationship.

Financial Speculators' Underperformance: Learning, Self‐Selection, and Endogenous Liquidity

Pages: 1313-1340  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01237.x  |  Cited by: 39


We develop an equilibrium model of learning by rational traders to reconcile several empirical regularities: Cross sectionally, most individual speculators lose money; large speculators outperform small speculators; past performance positively affects subsequent trade intensity; most new traders lose money and cease speculation; and performance shows persistence. Learning from trading generates substantial endogenous liquidity, reducing bid–ask spreads and the impact of exogenous liquidity shocks on asset prices, but amplifying the effects of real shocks. Introducing slightly overconfident traders increases bid–ask spreads, hurting all traders. Finally, behavioral theories cannot reconcile all of these empirical regularities.

Optimal Debt and Equity Values in the Presence of Chapter 7 and Chapter 11

Pages: 1341-1377  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01238.x  |  Cited by: 139


Explicit presence of reorganization in addition to liquidation leads to conflicts of interest between borrowers and lenders. In the first–best outcome, reorganization adds value to both parties via higher debt capacity, lower credit spreads, and improved overall firm value. If control of the ex ante reorganization timing and the ex post decision to liquidate is given to borrowers, most of the benefits are appropriated by borrowers ex post. Lenders can restore the first–best outcome by seizing this control or by the ex post transfer of control rights. Reorganization is more likely and liquidation is less likely relative to the benchmark case with liquidation only.

The Value of Corporate Risk Management

Pages: 1379-1419  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01239.x  |  Cited by: 135


We model and estimate the value of corporate risk management. We show how risk management can add value when revenues and costs are nonlinearly related to prices and estimate the model by regressing quarterly firm sales and costs on the second and higher moments of output and input prices. For a sample of 34 oil refiners, we find that hedging concave revenues and leaving concave costs exposed each represent between 2% and 3% of firm value. We validate our approach by regressing Tobin's q on the estimated value and level of risk management and find results consistent with the model.

Corporate Bond Market Transaction Costs and Transparency

Pages: 1421-1451  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01240.x  |  Cited by: 674


Using a complete record of U.S. over‐the‐counter (OTC) secondary trades in corporate bonds, we estimate average transaction costs as a function of trade size for each bond that traded more than nine times between January 2003 and January 2005. We find that transaction costs decrease significantly with trade size. Highly rated bonds, recently issued bonds, and bonds close to maturity have lower transaction costs than do other bonds. Costs are lower for bonds with transparent trade prices, and they drop when the TRACE system starts to publicly disseminate their prices. The results suggest that public traders benefit significantly from price transparency.

Model Specification and Risk Premia: Evidence from Futures Options

Pages: 1453-1490  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01241.x  |  Cited by: 523


This paper examines model specification issues and estimates diffusive and jump risk premia using S&P futures option prices from 1987 to 2003. We first develop a time series test to detect the presence of jumps in volatility, and find strong evidence in support of their presence. Next, using the cross section of option prices, we find strong evidence for jumps in prices and modest evidence for jumps in volatility based on model fit. The evidence points toward economically and statistically significant jump risk premia, which are important for understanding option returns.

Stochastic Volatilities and Correlations of Bond Yields

Pages: 1491-1524  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01242.x  |  Cited by: 47


I develop an interest rate model with separate factors driving innovations in bond yields and their covariances. It features a flexible and tractable affine structure for bond covariances. Maximum likelihood estimation of the model with panel data on swaptions and discount bonds implies pricing errors for swaptions that are almost always lower than half of the bid–ask spread. Furthermore, market prices of interest rate caps do not deviate significantly from their no‐arbitrage values implied by the swaptions under the model. These findings support the conjectures of Collin‐Dufresne and Goldstein (2003), Dai and Singleton (2003), and Jagnnathan, Kaplin, and Sun (2003).


Pages: 1525-1526  |  Published: 5/2007  |  DOI: 10.1111/j.1540-6261.2007.01243.x  |  Cited by: 0