The Journal of Finance

Public Information and Coordination: Evidence from a Credit Registry Expansion

Published: 03/21/2011   |   DOI: 10.1111/j.1540-6261.2010.01637.x

ANDREW HERTZBERG, JOSÉ MARÍA LIBERTI, DANIEL PARAVISINI

This paper provides evidence that lenders to a firm close to distress have incentives to coordinate: lower financing by one lender reduces firm creditworthiness and causes other lenders to reduce financing. To isolate the coordination channel from lenders' joint reaction to new information, we exploit a natural experiment that forced lenders to share negative private assessments about their borrowers. We show that lenders, while learning nothing new about the firm, reduce credit in anticipation of other lenders' reaction to the negative news about the firm. The results show that public information exacerbates lender coordination and increases the incidence of firm financial distress.

A Model of Shadow Banking

Published: 01/30/2013   |   DOI: 10.1111/jofi.12031

NICOLA GENNAIOLI, ANDREI SHLEIFER, ROBERT W. VISHNY

We present a model of shadow banking in which banks originate and trade loans, assemble them into diversified portfolios, and finance these portfolios externally with riskless debt. In this model: outside investor wealth drives the demand for riskless debt and indirectly for securitization, bank assets and leverage move together, banks become interconnected through markets, and banks increase their exposure to systematic risk as they reduce idiosyncratic risk through diversification. The shadow banking system is stable and welfare improving under rational expectations, but vulnerable to crises and liquidity dry‐ups when investors neglect tail risks.

Change You Can Believe In? Hedge Fund Data Revisions

Published: 01/27/2015   |   DOI: 10.1111/jofi.12240

ANDREW J. PATTON, TARUN RAMADORAI, MICHAEL STREATFIELD

We analyze the reliability of voluntary disclosures of financial information, focusing on widely‐employed publicly‐available hedge fund databases. Tracking changes to statements of historical performance recorded between 2007 and 2011, we find that historical returns are routinely revised. These revisions are not merely random or corrections of earlier mistakes; they are partly forecastable by fund characteristics. Funds that revise their performance histories significantly and predictably underperform those that have never revised, suggesting that unreliable disclosures constitute a valuable source of information for investors. These results speak to current debates about mandatory disclosures by financial institutions to market regulators.

Why Do Markets Move Together? An Investigation of U.S.‐Japan Stock Return Comovements

Published: 07/01/1996   |   DOI: 10.1111/j.1540-6261.1996.tb02713.x

G. ANDREW KAROLYI, RENÉ M. STULZ

This article explores the fundamental factors that affect cross‐country stock return correlations. Using transactions data from 1988 to 1992, we construct overnight and intraday returns for a portfolio of Japanese stocks using their NYSE‐traded American Depository Receipts (ADRs) and a matched‐sample portfolio of U. S. stocks. We find that U. S. macroeconomic announcements, shocks to the Yen/Dollar foreign exchange rate and Treasury bill returns, and industry effects have no measurable influence on U.S. and Japanese return correlations. However, large shocks to broad‐based market indices (Nikkei Stock Average and Standard and Poor's 500 Stock Index) positively impact both the magnitude and persistence of the return correlations.

Predictable Financial Crises

Published: 01/27/2022   |   DOI: 10.1111/jofi.13105

ROBIN GREENWOOD, SAMUEL G. HANSON, ANDREI SHLEIFER, JAKOB AHM SØRENSEN

Using historical data on postwar financial crises around the world, we show that the combination of rapid credit and asset price growth over the prior three years, whether in the nonfinancial business or the household sector, is associated with a 40% probability of entering a financial crisis within the next three years. This compares with a roughly 7% probability in normal times, when neither credit nor asset price growth is elevated. Our evidence challenges the view that financial crises are unpredictable “bolts from the sky” and supports the Kindleberger‐Minsky view that crises are the byproduct of predictable, boom‐bust credit cycles. This predictability favors policies that lean against incipient credit‐market booms.

INVESTMENT PRACTICES OF CORPORATE PENSION FUNDS*

Published: 09/01/1959   |   DOI: 10.1111/j.1540-6261.1959.tb00129.x

Victor L. Andrews

Habit Formation and Macroeconomic Models of the Term Structure of Interest Rates

Published: 11/28/2007   |   DOI: 10.1111/j.1540-6261.2007.01299.x

ANDREA BURASCHI, ALEXEI JILTSOV

This paper introduces a new class of nonaffine models of the term structure of interest rates that is supported by an economy with habit formation. Distinguishing features of the model are that the interest rate dynamics are nonlinear, interest rates depend on lagged monetary and consumption shocks, and the price of risk is not a constant multiple of interest rate volatility. We find that habit persistence can help reproduce the nonlinearity of the spot rate process, the documented deviations from the expectations hypothesis, the persistence of the conditional volatility of interest rates, and the lead‐lag relationship between interest rates and monetary aggregates.

Economic Links and Predictable Returns

Published: 07/19/2008   |   DOI: 10.1111/j.1540-6261.2008.01379.x

LAUREN COHEN, ANDREA FRAZZINI

This paper finds evidence of return predictability across economically linked firms. We test the hypothesis that in the presence of investors subject to attention constraints, stock prices do not promptly incorporate news about economically related firms, generating return predictability across assets. Using a data set of firms' principal customers to identify a set of economically related firms, we show that stock prices do not incorporate news involving related firms, generating predictable subsequent price moves. A long–short equity strategy based on this effect yields monthly alphas of over 150 basis points.

Multimarket Trading and Liquidity: Theory and Evidence

Published: 09/04/2007   |   DOI: 10.1111/j.1540-6261.2007.01272.x

SHMUEL BARUCH, G. ANDREW KAROLYI, MICHAEL L. LEMMON

We develop a new model of multimarket trading to explain the differences in the foreign share of trading volume of internationally cross‐listed stocks. The model predicts that the trading volume of a cross‐listed stock is proportionally higher on the exchange in which the cross‐listed asset returns have greater correlation with returns of other assets traded on that market. We find robust empirical support for this prediction using stock return and volume data on 251 non‐U.S. stocks cross‐listed on major U.S. exchanges.

Frailty Correlated Default

Published: 09/28/2009   |   DOI: 10.1111/j.1540-6261.2009.01495.x

DARRELL DUFFIE, ANDREAS ECKNER, GUILLAUME HOREL, LEANDRO SAITA

The probability of extreme default losses on portfolios of U.S. corporate debt is much greater than would be estimated under the standard assumption that default correlation arises only from exposure to observable risk factors. At the high confidence levels at which bank loan portfolio and collateralized debt obligation (CDO) default losses are typically measured for economic capital and rating purposes, conventionally based loss estimates are downward biased by a full order of magnitude on test portfolios. Our estimates are based on U.S. public nonfinancial firms between 1979 and 2004. We find strong evidence for the presence of common latent factors, even when controlling for observable factors that provide the most accurate available model of firm‐by‐firm default probabilities.

Model Comparison with Transaction Costs

Published: 03/20/2023   |   DOI: 10.1111/jofi.13225

ANDREW DETZEL, ROBERT NOVY‐MARX, MIHAIL VELIKOV

Failing to account for transaction costs materially impacts inferences drawn when evaluating asset pricing models, biasing tests in favor of those employing high‐cost factors. Ignoring transaction costs, Hou, Xue, and Zhang (2015, Review of Financial Studies, 28, 650–705) q‐factor model and Barillas and Shanken (2018, TheJournal of Finance, 73, 715–754) six‐factor models have high maximum squared Sharpe ratios and small alphas across 205 anomalies. They do not, however, come close to spanning the achievable mean‐variance efficient frontier. Accounting for transaction costs, the Fama and French (2015, Journal of Financial Economics, 116, 1–22; 2018, Journal of Financial Economics, 128, 234–252) five‐factor model has a significantly higher squared Sharpe ratio than either of these alternative models, while variations employing cash profitability perform better still.

A MODEL OF WARRANT PRICING IN A DYNAMIC MARKET

Published: 12/01/1970   |   DOI: 10.1111/j.1540-6261.1970.tb00867.x

Andrew H. Y. Chen

Model Uncertainty and Option Markets with Heterogeneous Beliefs

Published: 01/11/2007   |   DOI: 10.1111/j.1540-6261.2006.01006.x

ANDREA BURASCHI, ALEXEI JILTSOV

This paper provides option pricing and volume implications for an economy with heterogeneous agents who face model uncertainty and have different beliefs on expected returns. Market incompleteness makes options nonredundant, while heterogeneity creates a link between differences in beliefs and option volumes. We solve for both option prices and volumes and test the joint empirical implications using S&P500 index option data. Specifically, we use survey data to build an Index of Dispersion in Beliefs and find that a model that takes information heterogeneity into account can explain the dynamics of option volume and the smile better than can reduced‐form models with stochastic volatility.

The Value of Financial Flexibility

Published: 09/10/2008   |   DOI: 10.1111/j.1540-6261.2008.01397.x

ANDREA GAMBA, ALEXANDER TRIANTIS

We develop a model that endogenizes dynamic financing, investment, and cash retention/payout policies in order to analyze the effect of financial flexibility on firm value. We show that the value of financing flexibility depends on the costs of external financing, the level of corporate and personal tax rates that determine the effective cost of holding cash, the firm's growth potential and maturity, and the reversibility of capital. Through simulations, we demonstrate that firms facing financing frictions should simultaneously borrow and lend, and we examine the nature of dynamic debt and liquidity policies and the value associated with corporate liquidity.

Brokers and Order Flow Leakage: Evidence from Fire Sales

Published: 08/09/2019   |   DOI: 10.1111/jofi.12840

ANDREA BARBON, MARCO DI MAGGIO, FRANCESCO FRANZONI, AUGUSTIN LANDIER

Using trade‐level data, we study whether brokers play a role in spreading order flow information in the stock market. We focus on large portfolio liquidations that result in temporary price drops, and identify the brokers who intermediate these trades. These brokers’ clients are more likely to predate on the liquidating funds than to provide liquidity. Predation leads to profits of about 25 basis points over 10 days and increases the liquidation costs of the distressed fund by 40%. This evidence suggests a role of information leakage in exacerbating fire sales.

The Size and Incidence of the Losses from Noise Trading

Published: 07/01/1989   |   DOI: 10.1111/j.1540-6261.1989.tb04385.x

J. BRADFORD DE LONG, ANDREI SHLEIFER, LAWRENCE H. SUMMERS, ROBERT J. WALDMANN

Recent empirical research has identified a significant amount of volatility in stock prices that cannot easily be explained by changes in fundamentals; one interpretation is that asset prices respond not only to news but also to irrational “noise trading.” We assess the welfare effects and incidence of such noice trading using an overlapping‐generations model that gives investors short horizons. We find that the additional risk generated by noise trading can reduce the capital stock and consumption of the economy, and we show that part of that cost may be borne by rational investors. We conclude that the welfare costs of noise trading may be large if the magnitude of noise in aggregate stock prices is as large as suggested by some of the recent empirical litrature on the excess volatility of the market.

THE EFFECTS OF TAX POLICY ON CAPITAL FORMATION, CORPORATE LIQUIDITY AND THE AVAILABILITY OF INVESTIBLE FUNDS: A SIMULATION STUDY

Published: 05/01/1976   |   DOI: 10.1111/j.1540-6261.1976.tb01887.x

Andrew F. Brimmer, Allen Sinai

Rational Expectations and the Measurement of a Stock's Elasticity of Demand

Published: 09/01/1984   |   DOI: 10.1111/j.1540-6261.1984.tb03896.x

FRANKLIN ALLEN, ANDREW POSTLEWAITE

Scholes [1] considered the effect of secondary sales of large blocks of stock on the price of the stock. However, he only looked at price changes occurring just before and just after the sale took place. It is argued here, using a simple model, that if traders have rational expectations they may anticipate the sale, and prices could reflect this possibility long before it actually occurs. To determine the full effect, it may therefore be necessary to consider the price path many months, or even years, before the sale.

Corporate Ownership Around the World

Published: 12/17/2002   |   DOI: 10.1111/0022-1082.00115

Rafael Porta, Florencio Lopez‐De‐Silanes, Andrei Shleifer

We use data on ownership structures of large corporations in 27 wealthy economies to identify the ultimate controlling shareholders of these firms. We find that, except in economies with very good shareholder protection, relatively few of these firms are widely held, in contrast to Berle and Means's image of ownership of the modern corporation. Rather, these firms are typically controlled by families or the State. Equity control by financial institutions is far less common. The controlling shareholders typically have power over firms significantly in excess of their cash flow rights, primarily through the use of pyramids and participation in management.

A Nonparametric Approach to Pricing and Hedging Derivative Securities Via Learning Networks

Published: 07/01/1994   |   DOI: 10.1111/j.1540-6261.1994.tb00081.x

JAMES M. HUTCHINSON, ANDREW W. LO, TOMASO POGGIO

We propose a nonparametric method for estimating the pricing formula of a derivative asset using learning networks. Although not a substitute for the more traditional arbitrage‐based pricing formulas, network‐pricing formulas may be more accurate and computationally more efficient alternatives when the underlying asset's price dynamics are unknown, or when the pricing equation associated with the no‐arbitrage condition cannot be solved analytically. To assess the potential value of network pricing formulas, we simulate Black‐Scholes option prices and show that learning networks can recover the Black‐Scholes formula from a two‐year training set of daily options prices, and that the resulting network formula can be used successfully to both price and delta‐hedge options out‐of‐sample. For comparison, we estimate models using four popular methods: ordinary least squares, radial basis function networks, multilayer perceptron networks, and projection pursuit. To illustrate the practical relevance of our network pricing approach, we apply it to the pricing and delta‐hedging of S&P 500 futures options from 1987 to 1991.