Revealed Preferences for Corporate Leverage

Philippon examines firms’ capital structure empirically and theoretically. He finds that firm value does not exactly fit the static trade-off model. Specifically he finds that low levels of debt are not accompanied by as low of firm values as would be expected. However, in other areas, what we have been teaching seems exactly right: more growth options means less debt, highly profitable firms do have … [ Read more ]

Powerful CEOs and their Impact on Corporate Performance

Executives can only impact firm outcomes if they have influence over crucial decisions. Based on this idea we develop and test the hypothesis that firms whose CEOs have more decision-making power should experience more variability in performance. We construct proxies for the CEO’s power to influence decisions and show that stock returns are significantly more variable for firms run by powerful CEOs. We find similar … [ Read more ]

International Evidence on Financial Derivative Usage

Bartram, Brown, and Fehle provide a fascinating look at who uses derivatives? And what type of derivatives do they use? After examining nearly 7300 non financial firms from 48 countries, they report that about 60% of the firms used some derivatives. Currency derivatives were the most popular kind used followed by interest rate derivatives. Only 10% used commodity derivatives. [FinanceProfessor.com Annotation] … [ Read more ]

Does Graduate Education Contribute to Professional Accounting Success?

Wier, Stone, and Hunton look at whether, and if so what type of, graduate education is useful in predicting professional success in accounting. Using a fairly large data set (about 9000 total students), the authors conclude that graduate education does help (and it is not just a selection or halo effect!) but at differing degrees. For instance, performance evaluations for those with a … [ Read more ]

Accounting Returns Revisited: Evidence of their Usefulness in Estimating Economic Returns

Danielson and Press provide an interesting look at how well accounting numbers can do to describe the economic returns of a firm. And they conclude, that in spite of the many complaints, accounting numbers do a pretty good job (not perfect) at proxying for actual economic returns. [FinanceProfessor.com Annotation]

Conservatism in Accounting – Part I: Explanations and Implications

Conservatism is under attack from certain circles. For example, some (including even the FASB) are now suggesting it may be better to abandon conservatism in order to show more unbiased financial statements. In a surprisingly interesting article (NOTHING personal, but come on, it is about accounting conservatism!) Ross Watts looks at this issue and examines conservatism both from a both an historical/theoretical perspective … [ Read more ]

Disclosure Practices of Foreign Companies Interacting with U.S. Markets

Khanna, Palepu, and Srinivasan examine the relatively new S&P Transparency and Disclosure scores for 466 firms from Asian-Pacific countries. Consistent with theory, they find that the more the interaction with US firms, the more transparent the firm’s disclosure practices. Specifically they find “a positive association between these disclosure scores and the following types of market interactions: business operations in the US, US listing, … [ Read more ]

Confidence in the Familiar: An International Perspective

Investors have long exhibited a “home country bias” whereby they hold more shares of firms from their own country than would seem warranted based off of typical diversification theory. This seeming anomaly has been partially explained in many ways (my favorite is Butler’s view that when markets fall, the correlation is actually greater than the long run correlation, hence overstating the value of diversification). … [ Read more ]

The Impact of Market Design and Institutional Features on World Equity Market Performance: The Relation Between Market Design

Westerholm, Swan, and Liu look at how market design impacts how the market operates. That is, there is a tradeoff between transaction costs and volatility. Having dealers available to trade continually increases expenses, which in turn lead to larger spreads (transaction costs) for these so-called continuous dealer markets. On the other hand in return for these larger spreads, the dealers do help … [ Read more ]

The Impact of Clientele Changes: Evidence from Stock Splits

A stock split occurs when a company changes the number of shares it has outstanding. For example, suppose the firm had 1 million shares outstanding and then announced a 2:1 split. The firm would now have 2 million shares outstanding. It is not surprising that the stock price drops after the split, but what continues to leave researchers puzzled is why there … [ Read more ]

The Illusory Nature of Momentum Profits

Market efficiency is a tough thing to beat. Go ahead, find an anomaly and then have it torn to bits in future papers. Lesmond, Schill, and Zhou come to the defense of market efficiency and find that the reported profits from momentum investing are minimally overstated and possibly non-existent because of the higher than normal transactions costs involved with the necessary trading. … [ Read more ]

Governance Mechanisms and Equity Prices (.pdf)

Internal and external monitoring have a strong complementary (synergistic) effect. That is the finding of Cremers and Nair who show that firms with both strong internal as well as external controls tend to outperform firms without the strong controls. To test this, the authors construct various portfolios and find that those firms who measure high on both categories outperform others in the sample. … [ Read more ]

Investment, Compensation, and Risk Aversion

In this article, Erwan Morellec of the University of Rochester models the effect of managerial risk aversion on manager’s decision making. He shows that risk-averse mangers are more likely to invest early. In his words: “to speed up investment, leading to significant erosion of the value of the option to invest.” Why is this? Again quoting: “By investing, the manager transforms … [ Read more ]

Adding an Ethical Dimension to Portfolio Management

Socially Responsible Investing (SRI) means different things to different people, but essentially is investing in firms that treat their employees well, care for the environment, and make products or perform services that are aligned with the goals and desires of the investors (for example, many investors may refuse to buy tobacco stocks). For as long as I can remember there has been a debate … [ Read more ]

Boom and Bust in the Venture Capital Industry and the Impact on Innovation

This paper seeks to understand the implications of the recent collapse in venture activity on innovation. It argues that the situation may not be as grim as it initially appears. While there are many reasons for believing that on average venture capital has a powerful impact on innovation, the impact is far from uniform. In particular, during boom periods, the prevalence of over-funding of particular … [ Read more ]

Are Unmanaged Earnings Always Better for Shareholders?

Is earnings management always bad? No, if you believe the new paper by Arya, Glover, and Sunder. They point out that Earnings management can reduce the noise inherent in earnings and thereby reduce investor uncertainty. To quote the paper “a smooth car ride is not only comfortable, it also assures the driver of the driver’s expertise.” Moreover, too much transparency may reduce incentives of managers. … [ Read more ]

One Simple Test of Samuelson’s Dictum for the Stock Market

Jung and Shiller have an interesting paper that looks at Samuelson’s dictum: that is that the market is more efficient pricing individual stocks than getting the overall price level (i.e. the market) correct. In English it means that while we can price stocks relative to one another reasonably well, we can not price the overall market as well. [FinanceProfessor Annotation]