Research articles for the 2019-08-02

A Full and Synthetic Model for Asset-Liability Management in Life Insurance, and Analysis of the SCR With the Standard Formula
Alfonsi, Aurélien,Cherchali, Adel,Infante, Jose
The aim of this paper is to introduce a synthetic ALM model that catches the main specificity of life insurance contracts. First, it keeps track of both market and book values to apply the regulatory profit sharing rule. Second, it introduces a determination of the crediting rate to policyholders that is close to the practice and is a trade-off between the regulatory rate, a competitor rate and the available profits. Third, it considers an investment in bonds that enables to match a part of the cash outflow due to surrenders, while avoiding to store the trading history. We use this model to evaluate the Solvency Capital Requirement (SCR) with the standard formula, and show that the choice of the interest rate model is important to get a meaningful model after the regulatory shocks on the interest rate. We discuss the different values of the SCR modules first in a framework with moderate interest rates using the shocks of the present legislation, and then we consider a low interest framework with the latest recommandation of the EIOPA on the shocks. In both cases, we illustrate the importance of matching cash-flows and its impact on the SCR.

A Simple Factoring Pricing Model
, Ilaria Nava,Cuccio, Davide,Giada, Lorenzo,Nordio, Claudio
In a simplified setting, we show how to price invoice non-recourse factoring taking into account not only the credit worthiness of the debtor but also the assignor's one, together with the default correlation between the two. Indeed, the possible default of the assignor might impact the payoff by means of the bankruptcy revocatory, especially in case of undisclosed factoring.

Boomerang CEOs: What Happens when the CEO Comes Back?
Bingham, Chris,Hendricks, Bradley E.,Howell, Travis,Kolev, Kalin
CEO successions represent critical junctures for firms. Although extant research explores the performance consequences resulting from different succession types, what remains underexplored is what happens when the firm rehires a former CEO (e.g., a “boomerang CEO”). Using a sample of over 6,000 CEO tenures, we examine the performance consequences of former CEOs who return to the firm. Our results suggest that these boomerang CEOs perform significantly worse than other CEOs, and that this effect is especially strong for firms in dynamic industries and when the boomerang CEO is a founder. Thus, the irony is that rehired CEOs may drag organizations backward instead of pushing them forward. Collectively, our findings contribute to the upper echelons and experience literatures.

CVA and Vulnerable Options in Stochastic Volatility Models
Alos, Elisa,Antonelli, Fabio,Ramponi, Alessandro,Scarlatti, Sergio
In this work we want to provide a general principle to evaluate the CVA (Credit Value Adjustment) for a vulnerable option, that is an option subject to some default event, concerning the solvability of the issuer. CVA is needed to evaluate correctly the contract and it is particularly important in presence of WWR (Wrong Way Risk), when a credit deterioration determines an increase of the claim's price. In particular, we are interested in evaluating the CVA in stochastic volatility models for the underlying's price (which often fit quite well the market's prices) when admitting correlation with the default event. By cunningly using Ito's calculus, we provide a general representation formula applicable to some popular models such as SABR, Hull & White and Heston, which explicitly shows the correction in CVA due to the processes correlation. Later, we specialize this formula and construct its approximation for the three selected models. Lastly, we run a numerical study to test the formula's accuracy, comparing our results with Monte Carlo simulations.

Clients' Connections: Measuring the Role of Private Information in Decentralised Markets
Kondor, Peter,Pinter, Gabor
We propose a new measure of private information in decentralised markets

Competition in Online Markets: When Banks Compete, Do Consumers Really Win?
Al-Bahrani, Abdullah A.
The perceived objective of price comparison sites is to aggregate price quotes from several firms. They are expected to reduce consumers’ search costs and lead to more competitive markets. In this paper, I examine the difference in the prices consumers pay on comparison sites relative to traditional shopping methods. Using a unique data set, a mortgage firm’s pricing strategies on, a price comparison site, and in traditional markets are examined. The results indicate that and traditional consumers pay the same price on average. The presumed benefits from lower search cost on do not result in lower mortgage prices.

Confidence and Capital Raising
Huang, Winifred,Vismara, Silvio,Wei, Xingjie
We investigate whether confidence of management teams, defined as the certainty about handling something, affects the capacity of firms to raise external capital. Drawing from psychology research, we run an experiment in which participants are asked to assess the confidence of management teams of 515 Initial Coin Offerings (ICOs) by appraising their pictures. Controlling for venture and offering characteristics, we find a positive association between confidence and the amount of fundraising. The results are robust to alternative estimation methods and to other visual traits, such as attractiveness and intelligence. Our study highlights the importance of utilizing images as a channel to communicate with prospective investors in alternative finance.

Corporate Payouts in Dual Classes
Lei, Adam Y.C.,Li, Huihua,Yu, Jin
This paper provides empirical evidence showing that dual-class firms use dividend payments to mitigate agency problems while using repurchases of superior shares to maintain the private benefits of control. With a sample of dual-class firms from 1994 to 2015 that have both their superior voting shares and inferior voting shares publicly traded, we show that dual-class firms are more likely than a matched sample of single-class firms to pay dividends in both share classes, but they are more likely to repurchase their superior shares than single-class firms and their inferior shares. These findings are consistent with our agency payout hypothesis.

Covered Interest Parity Deviations: Macrofinancial Determinants
Cerutti, Eugenio,Obstfeld, Maurice,Zhou, Haonan
For several decades until the Global Financial Crisis (GFC), Covered Interest Parity (CIP) appeared to hold quite closely-even as a broad macroeconomic relationship applying to daily or weekly data. Not only have CIP deviations significantly increased since the GFC, but potential macrofinancial drivers of the variation in CIP deviations have also become significant. The variation in CIP deviations seems to be associated with multiple factors, not only regulatory changes. Most of these do not display a uniform importance across currency pairs and time, and some are associated with possibly temporary drivers (such as asynchronous monetary policy cycles).

Credit Building or Credit Crumbling? A Credit Builder Loan's Effects on Consumer Behavior, Credit Scores and Their Predictive Power
Burke, Jeremy,Jamison, Julian C.,Karlan, Dean S.,Mihaly, Kata,Zinman, Jonathan
There is little evidence on how the large market for credit score improvement products affects consumers or credit market efficiency. A randomized encouragement design on a standard credit builder loan (CBL) identifies null average effects on whether consumers have a credit score and the score itself, with important heterogeneity: those with loans outstanding at baseline fare worse, those without fare better. Selection, treatment effect, and prediction models indicate the CBL reveals valuable information to markets, inducing positive selection and making credit histories more precise, while keeping credit scores' predictive power intact. With modest targeting changes, CBLs could work as intended.

Credit Surfaces, Economic Activity, and Monetary Policy
Geanakoplos, John,Rappoport W, David E
A synthesis of new and old approaches in understanding macroeconomic fluctuations and the role of monetary policy (MP) is the credit surface, where the interest rate is a function of multiple credit terms: leverage, credit rating, term, etc. We gauge credit conditions using the credit surface in mortgage, corporate bond, and peer-to-peer lending markets, and explore its relationship with economic activity in these segments of the economy. In addition, we study the transmission of MP through the corporate bond credit surface. Our results suggest that the passthrough of MP is heterogeneous and non-monotonic in ex-ante riskiness, initially declining as risk increases but then increasing. Our preliminary results support the view that the credit surface is important for macroeconomic fluctuations and the transmission of MP.

Do Fund Managers Misestimate Climatic Disaster Risk?
Alok, Shashwat,Kumar, Nitin,Wermers, Russ
We examine whether professional money managers overreact to large climatic disasters. We find that managers within a major disaster region underweight disaster-zone stocks to a much greater degree than distant managers, and that this aversion to disaster-zone stocks is related to a salience bias that decreases over time and distance from the disaster â€" rather than to superior information possessed by close managers. This overreaction can be costly to fund investors for some especially salient disasters â€" hurricanes and tornadoes: a long-short strategy that exploits the overreaction generates a significant DGTW-adjusted return over the following two years.

Do Mandatory Disclosure Requirements for Private Firms Increase the Propensity of Going Public?
Aghamolla, Cyrus,Thakor, Richard T.
This paper investigates the effect of mandatory disclosure requirements for private firms on their decision to go public. Using detailed project-level data for biopharmaceutical firms, we explore the effects of a legal reform---the Food and Drug Administration Amendments Act (FDAAA)---which exogenously required that firms publicly disclose information regarding clinical trials. Exploiting cross-sectional heterogeneity in firms' exposure to the regulation based on their internal development portfolios, we find that affected firms are significantly more likely to transition to public equity markets following the reform. We also find that firms that go public due to the increased disclosure requirements subsequently reduce the size of their project portfolios while shifting to safer investments acquired externally. The results suggest that private firms' general information environment and disclosure requirements influence the propensity of going public, and the nature of their subsequent project decisions.

Do Short-Term Incentives Affect Long-Term Productivity?
Almeida, Heitor,Ersahin, Nuri,Fos, Vyacheslav,Irani, Rustom M.,Kronlund, Mathias
Previous research shows that stock repurchases that are caused by earnings management lead to reductions in firm-level investment and employment. It is natural to expect firms to cut less productive investment and employment first, which could lead to a positive effect on firm-level productivity. However, using Census data, we find that firms make cuts across the board irrespective of plant productivity. This pattern seems to be associated with frictions in the labor market. Specifically, we find evidence that unionization of the labor force may prevent firms from doing efficient downsizing, forcing them to engage in easy or expedient downsizing instead. As a result of this inefficient downsizing, EPS-driven repurchases lead to a reduction in long-term productivity.

Do Spanish IPO Firms Fit the Continental European Model for Going Public?
Sanchis Berenguer, Vicente A.,Pardo, Francisca,Farinós Viñas, José Emilio,Conesa, David
This paper analyses the determinants of the going public decision of the non-financial firms that were listed in the Spanish Continuous Market through an Initial Public Offering of shares (IPO) in the period 1997-2013. We employ series of characteristics related to the firms and the economic environment and logit regression methods in order to find the model that best fits the firms that went public, using the firms that could have gone public in the same period, but opted not to, as a control sample. In Spain, the firms that went public were characterized by being relatively larger and riskier than those that did not. In addition, their IPOs came after a period of investment and growth, although it does not appear that they intended to rebalance their financial structure or reduce their financial costs. Likewise, our results are robust across different sensitivity analyses. Our results suggest that Spanish IPO firms do not fit the Continental European model for going public. Therefore, it seems that differences between the Continental European and the Anglo-Saxon model are fading.

Employee Disputes and Innovation Performance: Evidence from Pharmaceutical Industry
Rayfield, Blake,Unsal, Omer
In this study, we use a hand-collected dataset of employee lawsuits to understand the effect of employee allegations on firms’ innovation in a human capital-intensive industry. We gather more than 2,293 employee disputes between 2000 and 2015 and test the relationship between employee lawsuits and Food and Drug Administration (FDA) product approvals in the pharmaceutical industry. We find that employee disputes lower the total number of FDA-approved products. We document that firms with frequent employee allegations maintain low innovation outcomes. Additional results show that case characteristics are an important determinant of FDA approvals; labor unions and case duration delay time-to-approval of submitted products, which may explain the deteriorated innovation outcomes. Overall, our findings highlight the importance of employee treatment in the workplace environment, which is ultimately related to firms’ innovation performance.

Factors and Advisors Portfolios
Lawler, Brian,Ang, Andrew,Mossman, Brett M,Nolan, Patrick
In the approximately 10,000 advisor portfolios that we analyze at the security level, we find there are large common patterns and significant exposures to just a few factors. Advisor portfolios are heavily exposed to economic growth, which is mostly accessed through equities, and could obtain better factor balance by including other diversifiers. Within equities, the only significant style exposure is small size; advisors, in general, can potentially improve returns by harvesting other rewarded style factors. In fixed income, advisor portfolios veer towards shorter duration which can be lengthened in an effort to provide more resilience against economic downturns. Finally, the average advisor fee is 0.54% across all portfolios, but with a wide range from 0.14% to 0.96% at the 5th and 95th percentiles, respectively. These fees, however, do not correlate highly with absolute levels of risk, active risk, or the number of positionsâ€"implying large scope to obtain greater efficiencies in taking active risk within a given fee budget.

Financial Reporting Frequency and Corporate Innovation
Fu, Renhui,Kraft, Arthur G.,Tian, Xuan,Zhang, Huai,Zuo, Luo
We examine how regulation of financial reporting frequency affects corporate innovation. Using a difference-in-differences approach based on a sample of firms that experience a change in their reporting frequency and matched firms whose reporting frequency remains unchanged, we find that higher reporting frequency reduces a firm’s innovation output. The evidence is consistent with the hypothesis that frequent reporting induces managerial myopia and impedes corporate innovation.

Fintech and Banking: What Do We Know?
Thakor, Anjan V.
This paper is a review of the literature on fintech and its interaction with banking. Included in fintech are innovations in payment systems (including cryptocurrencies), credit markets (including P2P lending), and insurance, with blockchain-assisted smart contracts playing a role. The paper provides a definition of fintech, examines some statistics and stylized facts, and then reviews the theoretical and empirical literature. The review is organized around four main research questions. The paper summarizes our knowledge on these questions and concludes with questions for future research.

Dannhauser, Caitlin D,Pontiff, Jeffrey
We estimate apples-to-apples comparisons of flows to active mutual funds, index mutual funds, and exchange traded funds (ETFs). The positive contemporaneous correlations between market returns and aggregate flows that were commonplace for active funds are now only prominent for ETFs. The monthly flow-performance relation of ETFs and index funds is larger than active funds. Annually the relation of active funds and ETFs is similar, while the index fund relation is muted. Category performance drives the relation. Extant theories of fund flows are hapless in explaining our results. Consistent with existing theories, flow-induced fire sales and trading are similar for all vehicles.

Foregone Consumption and Return-Chasing Investments
Agarwal, Sumit,Charoenwong, Ben,Ghosh, Pulak
Using a broad representative sample of individuals from India with monthly consumption data, we find following a higher positive return in the previous month, individuals decrease consumption and increase their investment account balance. The return-chasing effect is driven by the most popular BSE SENSEX 30 stock index and does not reverse for negative returns, consistent with models with utilities over financial wealth and mental accounting. The foregone consumption comes disproportionately more from luxuries relative to necessities, durables relative to non-durables and services, and debit relative to credit card-financed consumption. The return-chasing is less pronounced among and accounts with liabilities such as mortgages or personal loans.

Gender Gap in Savings Goal Choice: Evidence from Mixed Methods
Hillig, Ariane,Monne, Jerome,Rutterford, Janette,Sotiropoulos, Dimitris
There has been a good deal of research on gender psychological differences in the context of financial decision making, but no research on the impact of gender difference in the setting of savings goals. To address this question we use two unique datasets, one quantitative and one qualitative. Our quantitative results show that men set more challenging savings goals than women, even when we control for wealth, income, and portfolio risk taking. Our qualitative results corroborate these findings. Women are more likely to be content with targeting a comfortable life in retirement, setting an unambitious savings targets. They also tend to be more concerned than men by eventual possible future impediments to saving, such as adverse income shocks. This causes them to focus more on the accessibility of their savings which implies that they are more likely to anticipate that they will have to reduce savings in the future. In contrast, men seem less concerned about possible future barriers to saving money. They are also more committed to saving and to wealth accumulation.

Gibraltar: A Unique Territorial Dispute?
Waibel, Michael
At some level, every territorial dispute is unique: its geography; its history and its parties. According to this view, international law plays no or only a very limited role in territorial disputes. Gibraltar, despite certain unique features as a territorial dispute between two EU member states, nonetheless shares commonalities with other territorial disputes. So it is illuminating to look at some comparable territorial disputes.

Impact of Corporate (Dividend) Action on Stocks in India
M, Nagendra,, Prof. M Suresh Babu
The investment decision is influenced by many factors of which one such factor is return. The shareholders may get return in the form dividend which affects the share prices. The behavior of stock prices is unpredictable as price movement for different activities will move in different ways. The stock price movements can be divided into Economic and corporate activities. The impact of economic activities will be more or less same on all the stock prices while impact of corporate action varies from one stock to the other. Dividend payment is one of the important corporate actions that will have an impact on the behavior of stock prices. This research highlights the impact of dividend payment on the behavior of stock prices. To understand this behavior, ten stocks have been randomly picked which has paid the dividend in 2016. The researchers have used popular event window study and cumulative returns. In this regard, the researchers have picked two dates, namely dividend announcement date and the other is dividend effective date. The paired sample t-test is employed to compare cumulative returns before and after dividend announcement.

Information Embedded in Option Prices: Evidence from Credit Rating Agency Announcements
Khorram, Mehdi,Mo, Haitao,Sanger, Gary C.
We employ the implied volatility spread (IVS) as a measure of the information content of options, and confirm that IVS has the ability to predict future daily stock returns. We then focus on credit rating announcements and find that IVS has significantly higher predictive power on event days versus non-event days. In a consistent set of results we find that IVS predicts the direction and magnitude of credit rating changes. Exploring the source(s) of this predictability we argue it is driven primarily by short-sale activities. We find evidence against the hypotheses that IVS predictive power is driven by informed trading in options or by liquidity effects. These findings suggest that traders with information about credit rating announcements prefer to trade in the short-sale market rather than the options market.

Innovation under Ambiguity and Risk
Coiculescu, Gabriela,Izhakian, Yehuda (Yud),Ravid, S. Abraham
We explore the implications of ambiguity (Knightian uncertainty) and risk for innovation decisions through the lens of real options. Our hypotheses are supported by a real options model, and are based on a new risk- and outcome-independent measure of ambiguity. We expect ambiguity to decrease innovation investment, whereas risk should increase innovation investment. The latter prediction is also consistent with prior work.Empirically, we find a consistently significant negative effect of ambiguity on R&D investment, as well as on patents and citations. We also find a significant positive effect of risk on R&D, but the effect of risk on patents and citations is negative and significant, which suggests that in the face of higher risk firms may wait and delay patenting.The effect of ambiguity is more important for high tech firms, which invest heavily in research and in patenting, consistent with our intuition.

Institutional Monitoring and Litigation Risk: Evidence from Employee Disputes
Rayfield, Blake,Unsal, Omer
In this study, we investigate how institutional investors help mitigate business-related risks in a corporate environment. Using a large sample of employment disputes, litigations, and court cases, we find that institutional investors play a significant role in reducing employment litigation. We observe that firms with larger shares of institutional ownership have a lower incidence of employment lawsuits and that long-term institutional investors are more effective at decreasing employee mistreatment. Our results suggest that institutional investors can improve the employee work environment and help mitigate future employee litigation. The improvement of employee work conditions has been shown to increase a firm’s value through increased employee output, reduced litigation, and direct and indirect costs. Our results shed light on the effectiveness of institutional monitoring on a firm’s litigation risk.

Integrated Reporting and Earnings Management
Shirabe, Yuji,Nakano, Makoto
This study examines whether the introduction of integrated reporting affects earnings management. According to the International Integrated Reporting Framework, published by the International Integrated Reporting Council in 2013, integrated reporting is intended not only to improve the quality of information available to external parties, but also to improve internal decision making. Introducing integrated reporting is expected to correct companies’ short-term orientation and promote long-term value creation. Using data from Japan, where a large number of companies are voluntarily practicing integrated reporting, we find that firms are more likely to report conservative earnings after the introduction of integrated reporting, in terms of both accrual-based earnings management and real earnings management. We also find that the effect of integrated reporting on earnings management appears approximately two years or more after the introduction of integrated reporting. This evidence is consistent with practitioners’ point that integrated reporting is a continuous improvement process, and so takes several years to improve internal decision making. Finally, our findings provide evidence for standard setters and regulators who are interested in the merits of integrated reporting that integrated reporting promotes decision making with a long-term focus, resulting in more conservative earnings management.

Interest Rates and Institutional Investors’ Preferences for Risk
Cenesizoglu, Tolga,Papageorgiou, Nicolas A.,Radmehr, Farid
We analyze the effect of different interest rate environments on the institutional investors’ preferences towards risk using data on their holdings from 13f filings. We find strong empirical evidence for the predictions Rajan (2006) on how different interest rate characteristics affect institutional investors’ preferences for risk. First, in low interest rate environment, institutional investors prefer riskier stocks, especially those with higher systematic, rather than idiosyncratic, risk. Second, institutional investors migrate to stocks with high systematic and medium idiosyncratic risk in decreasing interest rate environments. Third, decreases in the interest rate level have statistically and economically more important effects on institutional investors’ preferences towards risk than increases in the interest rate level. Fourth, the persistence or volatility of interest rate do not seem to affect institutional investors’ preferences for stocks with different risk characteristics. Fifth, long term interest rate expectations do not significantly alter institutional investors’ preferences toward risk. These results hold for quasi-indexers and dedicated investors but not for transient investors due to their shorter investment horizons.

Is Competition a Cure for Confusion? Evidence from the Residential Mortgage Market
Malliaris, Steven G.,Rettl, Daniel A.,Singh, Ruchi
Using data from the National Survey of Mortgage Originations (NSMO), we document that borrowers’ financial sophistication (measured as self-reported understanding of mortgages and the mortgage process) and their exposure to competition (measured as the number of lenders they seriously considered) are both associated with lower mortgage rate spreads. However, competition is not a substitute for sophistication: the benefits of competition are at least as strong for sophisticates as they are for naifs. Our results complement those from the literature on financial sophistication which detail the limits of advice (e.g., Guiso et al. (2018)) and education (e.g., Fernandes et al. (2014)), and collectively paint a pessimistic view about the prospects for simple interventions to close the mortgage rate gap between the informed and the naive.

Large Blockholders and Stock Price Crash Risk
Eugster, Nicolas
This paper examines the relationship between large blockholders and stock price crash risk for the entire population of non-financial companies listed on the Swiss Exchange for the period 2003-2016. The results show that firms held by a large blockholder have a lower firm-specific crash risk than widely held firms, and the higher the proportion of voting rights, the lower the crash risk. These findings hold after taking into consideration several firm characteristics and potential endogeneity concerns. Further analysis reveals that the mitigating effect of large blockholders on crash risk is stronger in firms held by the founding family, the state or another financial company. Overall, the evidence suggests that large shareholders serve as monitors in the company and help reducing bad news concealment, leading to lower stock price crash risk.

Measurement Error in Multiple Equations: Tobin's q and Corporate Investment, Saving, and Debt
Chalak, Karim,Kim, Daniel
We characterize the sharp identification regions for the coefficients in a system of linear equations that share an explanatory variable measured with classical error. We demonstrate the identification gain from analyzing the equations jointly. We derive the sharp identification regions under any configuration of three auxiliary assumptions. These restrict the "noise-to-signal" ratio, the coefficients of determination, and the signs of the correlations among the cross-equation disturbances. For inference, we implement results on intersection bounds. The application studies the effects of cash flow on the investment, saving, and debt of firms when Tobin's q serves as a proxy for marginal q.

Microfinancing and Home-Purchase Restrictions: Evidence from the Online 'Peer-to-Peer' Lending in China
CHEN, Xin,QIN, Yaohua,Xiao, He,Zhang, Yifei
This paper uses a quasi-natural experiment to study how houseowners’ borrowing costs were affected by the housing value fluctuation in China using a novel micro-level data from an online peer-to-peer (P2P) lending platform. The impacts on other equilibrium loan variables such as borrowing duration and numbers of lenders are also examined. By taking the housing purchase restriction policy shock as an exogenous event, we employ a difference-in-differences (DD) identification strategy. It is found that the equilibrium interest rate decreased, the growth rate of the deal completion time reduced and the number of investors went up for borrowers with house properties from the cities implementing the restriction policy. It echoes from a further triple differences (DDD) when considering city-specific effect based on samples with houseowners and non-houseowners. In addition, we estimate the heterogeneous effect for both household and city-level characteristics. Our dynamic analysis indicates that effects on houseowners’ P2P borrowing activities persist for 9 months. The channel of the effect was from the collateral effect rather than the pure wealth effect.

On Buybacks, Dilutions, Dividends, and the Pricing of Stock-Based Claims
Backwell, Alex,McWalter, Thomas,Ritchken, Peter H.
We develop a structural model of the firm that allows after-interest cash to be directed to dividends, buybacks or some combination thereof. We study the effects of dilutions and buybacks on the value of the firm's claimants and on options written on the stock. We distinguish between options on equity and options on individual shares and value both types. We examine employee stock options and establish how their value changes in accordance with changing payout policies. Our model allows us to quantify and analyze the wealth transfer that occurs from shareholders to holders of employee stock-based contingent claims.

On the Option Pricing Formula Based on the Bachelier Model
Terakado, Satoshi
Under the recent negative interest rate situation, the Bachelier model has been attracting attention and adopted for evaluating the price of interest rate options. In this paper, we will derive an option pricing formula based on the Bachelier model and compare it with the prior researches. We will derive it by eight methods and clarify the property of the Bachelier model.Then we will confirm the validity of the Normal model that is actually used in the valuation of interest rate options under negative interest rate, while comparing it with the Bachelier model for stocks. We start from the natural setting of modeling the undiscounted stock price by the Ornstein=Uhlenbeck process, and derive the Bachelier formula in consideration of discount.On the other hand, since the major prior researches start from modeling the discounted stock price by the Brownian motion, their models of the undiscounted stock price has an unnatural setting that the price of the numeraire asset is included. Furthermore, It has been confirmed that their formulas are not consistent among them. During the derivation process, we have obtained various results concerning the Bachelier model. In particular, in the case of the Bachelier model, it has been confirmed that the utility function of a representative agent is the CARA utility function unlike the Black-Scholes model. The assumption of the exponential type utility function is quite natural setting. In addition, we have derived other expressions of the Bachelier's formula (the formula decomposed into the intrinsic value and the time value and the formula using a characteristic function). As for the Normal model used for pricing interest rate options, we have derived an original pricing formula (Modified Normal model) in which the unnatural points of the Normal model of the forward LIBOR and forward swap rate have been partially corrected.

Ownership, Wealth, and Risk Taking: Evidence on Private Equity Fund Managers
Bienz, Carsten,Thorburn, Karin S.,Walz, Uwe
We examine the incentive effects of private equity (PE) professionals' ownership in the funds they manage. In a simple model, we show that managers select less risky firms and use more debt financing the higher their ownership. We test these predictions for a sample of PE funds in Norway, where the professionals' private wealth is public. Consistent with the model, firm risk decreases and leverage increases with the manager's ownership in the fund, but largely only when scaled with her wealth. Moreover, the higher the ownership, the smaller is each individual investment, increasing fund diversification. Our results suggest that wealth is of first-order importance when designing incentive contracts requiring PE fund managers to coinvest.

Should Annuities be Purchased from Tax-Sheltered Assets?
Blanchett, David,Finke, Michael S.
Retirees who purchase an annuity may assume that retirement savings accounts are ideal for funding retirement income. Annuities, however, are a tax-favored investment. We investigate the relative benefits of purchasing an annuity from tax-deferred and taxable accounts for various payout levels, tax rates, asset tax efficiency, and assumed portfolio rates of return. We find considerable evidence that investors are better off using non-qualified accounts to purchase annuities, although the benefits vary significantly by investor characteristics and the tax efficiency of investments held in non-qualified savings. In some cases, selecting the right account increases the after-tax income by over 10% which is equivalent to approximately 50 basis points of added portfolio return. A 15-year deferred annuity purchased from non-qualified vs. qualified bonds earning 4% provides over 30% more after-tax income for a 65-year old with a 40% marginal tax rate.

Socially Responsible Equity Funds and the Dow Jones Sustainability Index
Liebscher, Roberto
I use variation created through changes in the index composition of the Dow Jones Sustainability Index (DJSI) to measure social preferences of U.S. domestic equity mutual funds. I find that while socially labeled funds (SRI funds) show a higher level of investments in DJSI stocks their response to changes in the index composition is not different from conventional funds. Moreover, out-of-sample predictions of reactions to index changes are weak for social responsibility ratings and the SRI label as predictors. The results either challenge the value of SRI labels and social responsibility ratings or the relevance of the DJSI for socially driven investment decisions.

Spoofing and Price Manipulation in Order Driven Markets
Cartea, Álvaro,Jaimungal, Sebastian,Wang, Yixuan
We model the trading strategy of an investor who spoofs the limit order book (LOB) to increase the revenue obtained from selling a position in a security. The strategy employs, in addition to sell limit orders (LOs) and sell market orders (MOs), a large number of spoof buy LOs to manipulate the volume imbalance of the LOB. Spoofing is illegal, so the strategy trades off the gains that originate from spoofing against the expected financial losses due to a fine imposed by the financial authorities. As the expected value of the fine increases, the investor relies less on spoofing, and if the expected fine is large enough, it is optimal for the investor not too spoof the LOB because the fine outweighs the benefits from spoofing. The arrival rate of buy MOs increases because other traders believe that the spoofed buy-heavy LOB shows the true supply of liquidity and interpret this imbalance as an upward pressure in prices. When the fine is low, our results show that spoofing considerably increases the revenues from liquidating a position. The PnL of the spoof strategy is higher than that of a no-spoof strategy for two reasons. First, the investor employs fewer MOs to draw the inventory to zero and benefits from roundtrip trades, which stem from spoof buy LOs that are ‘inadvertently’ filled and subsequently unwound with sell LOs. Second, the midprice trends upward when the book is buy-heavy, therefore, as time evolves, the spoofer sells the asset at better prices (on average).

Stochastic Price Dynamics Equations Via Supply and Demand; Implications for Volatility and Risk
Caginalp, Carey,Caginalp, Gunduz
We analyze the relative price change of assets starting from basic supply/demand considerations. The resulting stochastic differential equation has coefficients that are functions of supply and demand. The variance in the relative price change is then dependent on the supply and demand, and is closely connected to the expected return. An important consequence for risk assessment and options pricing is the implication that variance is highest when the magnitude of price change is greatest, and lowest near market extrema. This differs from the standard equation in mathematical finance in which the expected return and variance are decoupled. The methodology has implications for the basic framework for risk assessment, suggesting that volatility should be measured in the context of regimes of price change. The model we propose shows how investors are often misled by the apparent calm of markets near a market peak. Risk assessment methods utilizing volatility can be improved using this formulation.

The Extended Friday the 13th Effect in the US Stock Returns
Dumitriu, Ramona,Stefanescu, Razvan
The classical Friday the 13th Effect refers to a calendar anomaly of financial markets which is generated by the fear of bad luck shared by the superstitious investors. As a result of their behavior, the returns from the supposed unlucky day of Friday the 13th are significant lower than those from the other Fridays. The superstition could also affect the returns from the trading days there are adjacent to Friday the 13th. In order to avoid the bad luck, some investors sell their stocks a trading day before and their transactions lead to a fall of the prices. Those who are reluctant to buy stocks on Friday the 13th delay such transactions to the next trading day causing prices to rise. In time, the knowledge about this pattern could induce significant changes in investors’ behavior, even to those that are not superstitious. Once become aware that one trading day before Friday the 13th the stock prices are usually low, many investors would prefer to sell two or three trading days before. There also were investors that would buy stocks not one trading day after Friday the 13th, when the prices are expected to be high, but two or three trading days after. Other investors could exploit the opportunities to buy cheap on Friday the 13th or one trading day before or to sell high one trading day after and their transactions could attenuate the abnormal returns from these days. In such ways the classical form of Friday the 13th Effect could be replaced by an extended form which consists in abnormal returns for a specific time interval that starts some trading days before the supposed unlucky day and ends some trading days after. This paper explores the behavior of the stock returns of 42 companies, from seven sectors of the United States economy, in the period January 2010 â€" March 2019, for a time interval that starts three trading days before Friday the 13th and ends three trading days after. The results indicate, for many of them, significant low returns in some trading days before Friday the 13th and/or significant high returns some trading days after. We also found some particularities of the extended Friday the 13th Effect among the seven sectors.

The Hidden Risks of ESG Conformity - Benefiting from the ESG Life Cycle
Conen, Ralf,Hartmann, Stefan
This paper investigates the relationship between ESG scores and stock prices. Further to previous research we add ESG revisions to the overall level of ESG scores. We propose an ESG life cycle framework, which we decompose into four clusters. Each of these clusters exhibits different characteristics with respect to ESG scores and their influence on stock returns. We find that holding portfolios solely tilted towards absolute ESG scores bears significant ESG related performance risks. In an event-study setting, we find that markets react to ESG improvements of top ranked firms with negative abnormal returns. Similarily, second-tier firms experience significant negative abnormal returns when ESG ratings are declining. Adding revisions offers a deeper insight into the return â€" and risk dynamics of ESG related portfolios. Not only the level of ESG scores, but also the position within the ESG cycle is of special relevance to the portfolio’s return. ESG minded investors should consider the combination of both aspects when making portfolio decisions.

The Value of Intermediation in the Stock Market
Di Maggio, Marco,Egan, Mark,Franzoni, Francesco A.
Brokers continue to play a critical role in intermediating institutional stock market transactions. More than half of all institutional investor order flow is still executed by high-touch (non-electronic) brokers. Despite the continued importance of brokers, we have limited information on what drives investors' choices among them. We develop and estimate an empirical model of broker choice that allows us to quantitatively examine each investor's' responsiveness to execution costs and access to research and order flow information. Studying over 300 million institutional trades, we find that investor demand is relatively inelastic with respect to commissions and that investors are willing to pay a premium for access to top research analysts and order-flow information. There is substantial heterogeneity across investors. Relative to other investors, hedge funds tend to be more price insensitive, place less value on sell-side research, and place more value on order-flow information. Furthermore, using trader-level data, we find that investors are more likely to trade with traders who are located physically closer and are less likely to trade with traders that have misbehaved in the past. Lastly, we use our empirical model to investigate the unbundling of equity research and execution services related to the MiFID II regulations. While under-reporting for the average firm is relatively small (4%), we find that the bundling of execution and research allows some institutional investors to under-report management fees by up to 15%.

Treatment of the Banking Holiday of March 1933 in Growth Regressions
Mladjan, Mrdjan
Government intervention during the banking holiday of March 1933 resolved the uncertainty usually created by bank suspensions. Including banking holiday suspensions in growth regressions therefore biases downwards the estimates of the real effects of bank suspensions. In this paper, I propose a way to correct for this bias by adjusting the size of banking holiday suspensions before using them in growth regressions. I also demonstrate that the recovery of the banking sector after the holiday was more expressed in those states that experienced more suspensions, which affects the size of the proposed adjustment.

Underwriter’s Compensation, Marketing Effects, and IPO Performance: Evidence From China
Cheng, Louis T. W.,Hu, Gang,Yan, Siyuan
The literature and industry practice suggest that IPO underwriters perform significant marketing functions in the IPO process. In this paper, we document that underwriter’s efforts are correlated with positive marketing effects, leading to better IPO valuation and post-listing financial performance. Based on a sample of 1,436 Chinese IPOs during 2005-2015, we construct an expected model to extract the abnormal IPO underwriting spread from the overall underwriter’s compensation as the proxy for underwriter’s efforts. First, underwriter’s efforts produce significant short-term marketing effects proxied by pre-IPO institutional investors’ participation, offer price up-ward revision and long-term marketing effects in terms of analyst’s coverage, media coverage, and institutional holdings. Next, we show that these marketing-driven underwriter’s efforts are negatively associated with IPO underpricing and positively correlated with the firm’s post-listing liquidity and various post-listing financial performance measures.

Variation in Liquidity and Costly Arbitrage
Kottimukkalur, Badrinath
I model the behavior of an arbitrageur who is exposed to time-varying liquidity. She is averse to liquidating her position in a bad liquidity state. Therefore, she limits her trading in stocks having high variation in liquidity. In equilibrium, these stocks experience severe mispricing due to reduced arbitrage activity. Consistent with the model, in empirical tests, I find that the mispricing is severe in stocks with high variation in liquidity. Furthermore, the negative cross-sectional relationship between variation in liquidity and returns, documented in prior literature, is absent after accounting for the mispricing due to limited arbitrage.

Who Consumes the Credit Union Tax Subsidy?
DeYoung, Robert,Goddard, John,McKillop, Donal G.,Wilson, John O. S.
Credit unions are exempt from paying income taxes, and these tax savings are supposed to subsidize the provision of financial services to credit union members. In this paper, we investigate whether the entire credit union tax subsidy is being passed along to credit union membersâ€"in the form of increased quantities of financial services and/or better-than-market interest ratesâ€"or whether some of the credit union tax subsidy is being consumed by inefficient credit union operations. We estimate a structural model of profit inefficiency for US commercial banks between 2005 through 2017, and use the estimated parameters to evaluate the relative performance of US credit unions and commercial banks. When inputs and outputs are valued in terms of market prices, profit inefficiencies at credit unions exceed those at similar commercial banks by an economically significant order. About half of this inefficiency gap can be attributed to legally mandated credit union activitiesâ€"such as producing loans and issuing depositsâ€"while the remainder can be attributed to operational inefficiencies at credit unions relative to banks. When inputs and outputs are valued in terms of the prices that credit unions actually pay, our results suggest that over nine-tenths of the tax subsidy is simply passed through to credit union members in the form of higher deposit interest rates.