Research articles for the 2019-12-27
Green Hedge Fund Activists
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We examine the environmental impact of hedge fund activism. We find that firms targeted by hedge fund activism reduce toxic chemical emissions. In particular, target firms close heavy polluting plants and investing in green pollution-reduction technologies to reduce toxic emissions. We also find that target firms with the larger decreases in toxic chemical emissions experience higher stock returns after activism.
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We examine the environmental impact of hedge fund activism. We find that firms targeted by hedge fund activism reduce toxic chemical emissions. In particular, target firms close heavy polluting plants and investing in green pollution-reduction technologies to reduce toxic emissions. We also find that target firms with the larger decreases in toxic chemical emissions experience higher stock returns after activism.
Hedge Fund Strategies: A non-Parametric Analysis
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We investigate why top performing hedge funds are successful. We find evidence that top performing hedge funds follow a different strategy than mediocre performing hedge funds as they accept fewer risk factors that mostly anticipate the troubling economic conditions prevailing after 2006. Holding alpha performance constant, top performing funds mostly avoid relying on passive investment in illiquid investments but earn risk premiums by accepting market risk. Additionally, they seem able to exploit fleeting opportunities leading to momentum profits while closing losing strategies thereby avoiding momentum reversal.
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We investigate why top performing hedge funds are successful. We find evidence that top performing hedge funds follow a different strategy than mediocre performing hedge funds as they accept fewer risk factors that mostly anticipate the troubling economic conditions prevailing after 2006. Holding alpha performance constant, top performing funds mostly avoid relying on passive investment in illiquid investments but earn risk premiums by accepting market risk. Additionally, they seem able to exploit fleeting opportunities leading to momentum profits while closing losing strategies thereby avoiding momentum reversal.
How (Over) Conï¬dent Are Financial Analysts?
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Extensive research has been devoted to the quality of analysts’ earnings forecasts. The common ï¬nding is that analysts’ forecasts are not very accurate. Prior studies have tended to focus on the mean of forecasts and measure accuracy using various summaries of forecast errors. The present study sheds new light on the accuracy of analysts’ forecasts, by measuring how well calibrated these forecasts are. The authors follow the tradition of calibration studies in psychological literature and measure the degree of calibration by the hit rate. They analyze a year’s worth of data from the Institutional Brokers Estimate System database, which includes over 200,000 annual earnings forecasts made by over 6,000 analysts for over 5,000 companies. By using different ways to convert analysts’ point estimates of earnings into a range of values, the authors establish the bounds that are necessary to determine the hit rates, and examine to what extent the actual earnings announced by the companies are bracketed by these intervals. These hit rates provide a more complete picture of the accuracy of the forecasts.
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Extensive research has been devoted to the quality of analysts’ earnings forecasts. The common ï¬nding is that analysts’ forecasts are not very accurate. Prior studies have tended to focus on the mean of forecasts and measure accuracy using various summaries of forecast errors. The present study sheds new light on the accuracy of analysts’ forecasts, by measuring how well calibrated these forecasts are. The authors follow the tradition of calibration studies in psychological literature and measure the degree of calibration by the hit rate. They analyze a year’s worth of data from the Institutional Brokers Estimate System database, which includes over 200,000 annual earnings forecasts made by over 6,000 analysts for over 5,000 companies. By using different ways to convert analysts’ point estimates of earnings into a range of values, the authors establish the bounds that are necessary to determine the hit rates, and examine to what extent the actual earnings announced by the companies are bracketed by these intervals. These hit rates provide a more complete picture of the accuracy of the forecasts.
Information Management in Times of Crisis
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How does information management and control affect bank stability? Following a national bank holiday in 1933, New York state bank regulators suspended the publication of balance sheets of state-charter banks for two years, whereas the national-charter bank regulator did not. We use this divergence in policies to examine how the suspension of bank-specific information affected depositors. We find that state-charter banks experienced significantly less deposit outflows than national-charter banks in 1933. However, the behavior of bank deposits across both types of banks converged in 1934 after the introduction of federal deposit insurance.
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How does information management and control affect bank stability? Following a national bank holiday in 1933, New York state bank regulators suspended the publication of balance sheets of state-charter banks for two years, whereas the national-charter bank regulator did not. We use this divergence in policies to examine how the suspension of bank-specific information affected depositors. We find that state-charter banks experienced significantly less deposit outflows than national-charter banks in 1933. However, the behavior of bank deposits across both types of banks converged in 1934 after the introduction of federal deposit insurance.
Lending To Lose: Who Buys Negatively Yielding Bonds And What It Means For Investors
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I discuss the demand and supply of negatively yielding bonds, which is a recent and relatively unprecedented phenomenon in financial markets. To understand why one would lend to lose, I classify buyers into three categories, i.e. “forced buyersâ€, “speculators†and “non-financial government entitiesâ€. I conclude that the demand for bonds that are guaranteed to lose money can locally be justified by a variety of rational reasons. However, while locally rational, this conclusion raises important questions about global financial stability. Do negative yields mean that the bond market is distorted due to demand and supply mismatch, and if so what are the consequences if there are unforeseen macro-economic shocks?
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I discuss the demand and supply of negatively yielding bonds, which is a recent and relatively unprecedented phenomenon in financial markets. To understand why one would lend to lose, I classify buyers into three categories, i.e. “forced buyersâ€, “speculators†and “non-financial government entitiesâ€. I conclude that the demand for bonds that are guaranteed to lose money can locally be justified by a variety of rational reasons. However, while locally rational, this conclusion raises important questions about global financial stability. Do negative yields mean that the bond market is distorted due to demand and supply mismatch, and if so what are the consequences if there are unforeseen macro-economic shocks?
Momentum Spillover from Government Bonds to Equity Markets
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We investigate the momentum spillover effect from government bonds to their respective equity markets. Using a unique long-run dataset of 61 countries for the years 1900â€"2019, we demonstrate that past bond yield changes positively predict future stock index returns in the cross-section. The quintile of countries with the largest decline (or smallest increase) in government bond yields outperforms the quintile of countries with the smallest decline (or largest increase) by 0.63% per month. The effect is robust to many considerations. Our findings support the hypothesis that investors underreact to changes in government bond yields. Finally, we show that global investors can employ this bond momentum spillover effect to enhance international asset allocation decisions.
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We investigate the momentum spillover effect from government bonds to their respective equity markets. Using a unique long-run dataset of 61 countries for the years 1900â€"2019, we demonstrate that past bond yield changes positively predict future stock index returns in the cross-section. The quintile of countries with the largest decline (or smallest increase) in government bond yields outperforms the quintile of countries with the smallest decline (or largest increase) by 0.63% per month. The effect is robust to many considerations. Our findings support the hypothesis that investors underreact to changes in government bond yields. Finally, we show that global investors can employ this bond momentum spillover effect to enhance international asset allocation decisions.
Risk to Residential Property Values from Climate Change-Related Flooding Hazards: A Mixed Methods Approach
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Greater South Dunedin (GSD) has been identified as one of the most vulnerable areas to Climate Change-Related Flooding Hazards (CCRFH) in New Zealand, yet little is known about the magnitude of how CCRFH will impact property values. We address this issue by proposing a novel modelling strategy that links CCRFH, and in particular Sea Level Rise (SLR), to of residential property value, at fine geographical resolution. The strategy is both empirical and forward looking modelling. The empirical analysis reveals a significant negative price effect for houses associated with flooding risks in the local market (between 5.9% and 3.1%), which existed prior to the June 2015 South Dunedin flood and was exacerbated temporarily after this event. The forward modelling projections apply a “bathtub fill†approach to elevation data in a Geographical Information System (GIS) to identify the properties that will be inundated (using IPCC scenarios to 2100). Uncertainties arising from data error and long-term projection are modelled through Monte Carlo simulation. We find that, the risks of permanent inundation are currently limited and only become non-negligible in a “business-as-usual†pathway. The risks of periodic flooding, however, are strikingly large across all scenarios in the presence of extreme events. With high tides, the number of inundated properties may be as high as 39%. With extreme rainfalls, this number potentially increases to 41%. Taken together, CCFRH may affect property worth up to NZ$ 983 million in rateable value (37% of GSD property market). We conclude by acknowledging the limitations of our “bathtub fill†approach.
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Greater South Dunedin (GSD) has been identified as one of the most vulnerable areas to Climate Change-Related Flooding Hazards (CCRFH) in New Zealand, yet little is known about the magnitude of how CCRFH will impact property values. We address this issue by proposing a novel modelling strategy that links CCRFH, and in particular Sea Level Rise (SLR), to of residential property value, at fine geographical resolution. The strategy is both empirical and forward looking modelling. The empirical analysis reveals a significant negative price effect for houses associated with flooding risks in the local market (between 5.9% and 3.1%), which existed prior to the June 2015 South Dunedin flood and was exacerbated temporarily after this event. The forward modelling projections apply a “bathtub fill†approach to elevation data in a Geographical Information System (GIS) to identify the properties that will be inundated (using IPCC scenarios to 2100). Uncertainties arising from data error and long-term projection are modelled through Monte Carlo simulation. We find that, the risks of permanent inundation are currently limited and only become non-negligible in a “business-as-usual†pathway. The risks of periodic flooding, however, are strikingly large across all scenarios in the presence of extreme events. With high tides, the number of inundated properties may be as high as 39%. With extreme rainfalls, this number potentially increases to 41%. Taken together, CCFRH may affect property worth up to NZ$ 983 million in rateable value (37% of GSD property market). We conclude by acknowledging the limitations of our “bathtub fill†approach.
Safety of the Complex Industrial Facilities
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The problem of forming models for providing complex industrial facilities (CIFs) assessment is relevant because different slants to forming IT-security management systems (ISMSs) budget are exist. The models of CIFs assessment based on risk-based approach for fuel and energy complexes and airport complexes, and importance of realization the Plan-Do-Check-Act cycle noted. This approach increases speed of IT-security audits process, increase the reaction from management and increase the total IT-security level. It is shown that an ultimate goal of application setting of IT-security controls is decreasing potential damage concerning the chosen assets of CIFs. The received results can find application during the full lifecycle including forming, assessment and optimization of the IT-ISMS and budget justification. Application of the received results can be demanded when forming models and methods of internal audit and monitoring the objects being under influence of threats of IT-security violation.
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The problem of forming models for providing complex industrial facilities (CIFs) assessment is relevant because different slants to forming IT-security management systems (ISMSs) budget are exist. The models of CIFs assessment based on risk-based approach for fuel and energy complexes and airport complexes, and importance of realization the Plan-Do-Check-Act cycle noted. This approach increases speed of IT-security audits process, increase the reaction from management and increase the total IT-security level. It is shown that an ultimate goal of application setting of IT-security controls is decreasing potential damage concerning the chosen assets of CIFs. The received results can find application during the full lifecycle including forming, assessment and optimization of the IT-ISMS and budget justification. Application of the received results can be demanded when forming models and methods of internal audit and monitoring the objects being under influence of threats of IT-security violation.
Should Firms Stay 'Private' or Should Firms Go 'Public'? The Impact of IPO on Firm Risk
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Using a unique dataset consisting of firms that went public on the European and Asian Stock Exchanges between 2007 and 2011, firms that remain private over the same period and companies which have been listed for at least 10 years, we investigate whether going public is riskier than remaining private. To achieve this goal, we disentangle the effect of equity issue from other IPO’s effect and control for endogeneity and survivorship bias. Our main results are as follows. First, we find that while controlling for selection bias and the effect of equity issue, the risk of financial distress of IPOs starts to increase significantly more than control privately held firms after the listing. This result is resilient to different estimation models (namely treatment effect model, IV approach and DID) and financial distress indicators and to splitting the sample into European and Asian IPOs subsamples. Second, we find that a firm’s risk increases progressively after the IPO year because of a remarkable decline in its liquidity, profitability and retaining earnings and due to a constant increase of its leverage. Third, we find that going public firms also exhibit in the post-IPO years higher risk and lower risk-adjusted performance than the sample of 10-years listed firms.
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Using a unique dataset consisting of firms that went public on the European and Asian Stock Exchanges between 2007 and 2011, firms that remain private over the same period and companies which have been listed for at least 10 years, we investigate whether going public is riskier than remaining private. To achieve this goal, we disentangle the effect of equity issue from other IPO’s effect and control for endogeneity and survivorship bias. Our main results are as follows. First, we find that while controlling for selection bias and the effect of equity issue, the risk of financial distress of IPOs starts to increase significantly more than control privately held firms after the listing. This result is resilient to different estimation models (namely treatment effect model, IV approach and DID) and financial distress indicators and to splitting the sample into European and Asian IPOs subsamples. Second, we find that a firm’s risk increases progressively after the IPO year because of a remarkable decline in its liquidity, profitability and retaining earnings and due to a constant increase of its leverage. Third, we find that going public firms also exhibit in the post-IPO years higher risk and lower risk-adjusted performance than the sample of 10-years listed firms.
Speculation Sentiment - Executive Summary
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I exploit a novel setting to measure disagreement between unsophisticated speculators and smart money, that is, the leveraged exchanged-traded funds' (ETFs) primary market. The leveraged ETFs' primary market provides observable arbitrage activity that originates from unobservable speculative demand shocks that create relative mispricing between a leveraged ETF and its underlying derivative securities. I form the Speculation Sentiment Index using the realized arbitrage trades and the index proxies for the direction and magnitude of market-wide speculative demand shocks. The Speculation Sentiment Index predicts aggregate asset returns, anomaly returns, and it is associated with market-wide mispricing and arbitrage activity.
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I exploit a novel setting to measure disagreement between unsophisticated speculators and smart money, that is, the leveraged exchanged-traded funds' (ETFs) primary market. The leveraged ETFs' primary market provides observable arbitrage activity that originates from unobservable speculative demand shocks that create relative mispricing between a leveraged ETF and its underlying derivative securities. I form the Speculation Sentiment Index using the realized arbitrage trades and the index proxies for the direction and magnitude of market-wide speculative demand shocks. The Speculation Sentiment Index predicts aggregate asset returns, anomaly returns, and it is associated with market-wide mispricing and arbitrage activity.
Surviving the Perfect Storm: Exports, Fiscal Austerity, and Firm Heterogeneity
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We show that shocks to domestic demand can have important effects on exports. Austerity measures implemented in southern European countries as a result of the 2010-2011 sovereign debt crisis were a large and unanticipated shock to government spending. We find that firms with higher ex-ante government exposure significantly increase their exports following such a shock. Older and larger firms are better able to substitute domestic sales with entry into export markets than younger and smaller firms. Higher-quality firms (i.e., firms with higher paid workers, higher productivity and more educated managers) are also more likely to start exporting. Unlike previous research on non-tradable industries, our results suggest that more mature firms drive the response of tradable industries to demand shocks.
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We show that shocks to domestic demand can have important effects on exports. Austerity measures implemented in southern European countries as a result of the 2010-2011 sovereign debt crisis were a large and unanticipated shock to government spending. We find that firms with higher ex-ante government exposure significantly increase their exports following such a shock. Older and larger firms are better able to substitute domestic sales with entry into export markets than younger and smaller firms. Higher-quality firms (i.e., firms with higher paid workers, higher productivity and more educated managers) are also more likely to start exporting. Unlike previous research on non-tradable industries, our results suggest that more mature firms drive the response of tradable industries to demand shocks.
Technical Note on Local Time Risk Premiums in Parameterized Models of Interest-Rate Claims
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This technical note serves to establish proofs for the list of statements in Bakshi, Crosby, and Gao (2019).
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This technical note serves to establish proofs for the list of statements in Bakshi, Crosby, and Gao (2019).
The Capitalization Effect of Imputation Credits on Expected Stock Returns
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This paper develops an equilibrium model featuring heterogeneity in investor risk tolerance across different risk sources. Using Australian data, it confirms the theoretical predictions of the model, by showing that a higher imputation credit yield in one year leads to a lower stock return in the next year, and this negative relationship between imputation credit yield and stock return is weaker for stocks with higher idiosyncratic risk, of larger size and with a higher trading turnover. Our theoretical and empirical evidence favours the aggregation approach in explaining the capitalization effect of imputation credits over the marginal investor approach.
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This paper develops an equilibrium model featuring heterogeneity in investor risk tolerance across different risk sources. Using Australian data, it confirms the theoretical predictions of the model, by showing that a higher imputation credit yield in one year leads to a lower stock return in the next year, and this negative relationship between imputation credit yield and stock return is weaker for stocks with higher idiosyncratic risk, of larger size and with a higher trading turnover. Our theoretical and empirical evidence favours the aggregation approach in explaining the capitalization effect of imputation credits over the marginal investor approach.
The Gender Gap in Bank Credit Access
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We use a sample of over 80,000 Spanish companies started by a sole entrepreneur between 2004 and 2014, and distinguish between male and female entrepreneurs demand for credit, credit approval ratio, and credit performance. We find that female entrepreneurs who start a business are less likely to ask for a loan. Of the female entrepreneurs requesting a credit, the probability of obtaining one in the founding year is significantly lower than their male peers in the same industry. This lower credit access disappears over the subsequent years, once the company has a track record of profits and losses. We also observe that women-led companies that receive a loan in the founding year are less likely to default as compared to men-led companies. This superior performance disappears for subsequent years, coinciding with the disappearance of the lower credit access. Taking all these results together, we rule out both taste-based discrimination and statistical discrimination in the credit industry, and point to the possible presence of double standards which might be a consequence of implicit (unconscious) discrimination.
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We use a sample of over 80,000 Spanish companies started by a sole entrepreneur between 2004 and 2014, and distinguish between male and female entrepreneurs demand for credit, credit approval ratio, and credit performance. We find that female entrepreneurs who start a business are less likely to ask for a loan. Of the female entrepreneurs requesting a credit, the probability of obtaining one in the founding year is significantly lower than their male peers in the same industry. This lower credit access disappears over the subsequent years, once the company has a track record of profits and losses. We also observe that women-led companies that receive a loan in the founding year are less likely to default as compared to men-led companies. This superior performance disappears for subsequent years, coinciding with the disappearance of the lower credit access. Taking all these results together, we rule out both taste-based discrimination and statistical discrimination in the credit industry, and point to the possible presence of double standards which might be a consequence of implicit (unconscious) discrimination.
The Lock-In Effect and the Corporate Payout Puzzle
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Taxes on capital gains are deferred until realization, whereas dividend taxes are levied upon accrual. This often makes dividends tax-disadvantaged relative to share repurchases, which leads to the payout puzzle: why do firms pay dividends? This paper develops a model of corporate payout policy to demonstrate that tax deferment can also provide a partial solution to the payout puzzle: if shareholders demand repurchase premiums when selling equity back to a firm - as compensation for accelerated realizations - then dividend payments can become tax-efficient. This mechanism is appealing because it jointly explains a number of payout regularities without appealing to asymmetric information, incomplete contracting, repurchase constraints, and/or shareholder irrationality.
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Taxes on capital gains are deferred until realization, whereas dividend taxes are levied upon accrual. This often makes dividends tax-disadvantaged relative to share repurchases, which leads to the payout puzzle: why do firms pay dividends? This paper develops a model of corporate payout policy to demonstrate that tax deferment can also provide a partial solution to the payout puzzle: if shareholders demand repurchase premiums when selling equity back to a firm - as compensation for accelerated realizations - then dividend payments can become tax-efficient. This mechanism is appealing because it jointly explains a number of payout regularities without appealing to asymmetric information, incomplete contracting, repurchase constraints, and/or shareholder irrationality.
The Properties of Co-Quantiles and Their Applications to Momentum Spillovers
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This paper introduces a generalization of quantiles, order statistics, and concomitants that we term co-quantiles, and investigates their statistical properties. The probability density functions for the co-quantiles are obtained along with their moments under the assumption that the distribution of the underlying data are multivariate normal. In contrast to the conventional order statistics that rank and record the same attribute of a population, or concomitants that consider different attributes observed over the same time period, co-quantiles allow the ranking and recording of different attributes across different time periods. The co-quantile results naturally reduce to those for order statistics and concomitants, and generalize those on the distributions of linear combinations and the maxima of vector valued random variables obtained in Arellano-Valle and Genton (2007, 2008) and those on cross sectional momentum returns obtained in Kwon and Satchell (2018). By applying the results to momentum spillover returns, we establish theoretically that these returns are susceptible to sudden changes in the skewness and the kurtosis during periods of market uncertainty. Since momentum spillover and cross sectional momentum are structurally very similar, this provides a theoretical explanation for the momentum crashes reported in the empirical literature over such periods.
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This paper introduces a generalization of quantiles, order statistics, and concomitants that we term co-quantiles, and investigates their statistical properties. The probability density functions for the co-quantiles are obtained along with their moments under the assumption that the distribution of the underlying data are multivariate normal. In contrast to the conventional order statistics that rank and record the same attribute of a population, or concomitants that consider different attributes observed over the same time period, co-quantiles allow the ranking and recording of different attributes across different time periods. The co-quantile results naturally reduce to those for order statistics and concomitants, and generalize those on the distributions of linear combinations and the maxima of vector valued random variables obtained in Arellano-Valle and Genton (2007, 2008) and those on cross sectional momentum returns obtained in Kwon and Satchell (2018). By applying the results to momentum spillover returns, we establish theoretically that these returns are susceptible to sudden changes in the skewness and the kurtosis during periods of market uncertainty. Since momentum spillover and cross sectional momentum are structurally very similar, this provides a theoretical explanation for the momentum crashes reported in the empirical literature over such periods.
The SHERLOC: An EWS-Based Index of Vulnerability for Emerging Economies
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This paper presents a tool to detect the accumulation of risks in emerging market economies based on a synthetic index of “vulnerability†for three different types of crisis (sovereign, currency and banking crises). To build the index we first use a signalling approach (Auroc) to preselect the variables that issue adequate signals before the blown up of a crisis. The short-term interbank rate is a leading indicator for the three different types of crises and short term external debt also plays a prominent role. These variables are then introduced in a logistic estimation to obtain the predicted probability of being in a “vulnerable†state for each type of crisis. These indexes, labelled SHERLOC, which stands for Signalling Heightened Emerging Risks that Lead to the Occurrence of Crises, outperform all best single indicators in terms of in-sample and out-of-sample validation. Additionally, a synthetic index for each type of crisis seems to predict better “vulnerable†states than the use of an aggregate index for all types of crises.
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This paper presents a tool to detect the accumulation of risks in emerging market economies based on a synthetic index of “vulnerability†for three different types of crisis (sovereign, currency and banking crises). To build the index we first use a signalling approach (Auroc) to preselect the variables that issue adequate signals before the blown up of a crisis. The short-term interbank rate is a leading indicator for the three different types of crises and short term external debt also plays a prominent role. These variables are then introduced in a logistic estimation to obtain the predicted probability of being in a “vulnerable†state for each type of crisis. These indexes, labelled SHERLOC, which stands for Signalling Heightened Emerging Risks that Lead to the Occurrence of Crises, outperform all best single indicators in terms of in-sample and out-of-sample validation. Additionally, a synthetic index for each type of crisis seems to predict better “vulnerable†states than the use of an aggregate index for all types of crises.
Towards Explaining the ReLU Feed-Forward Network
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A multi-layer, multi-node ReLU network is a powerful, efficient, and popular tool in statistical prediction tasks. However, in contrast to the great emphasis on its empirical applications, its statistical properties are rarely investigated. To help closing this gap, we establish three asymptotic properties of the ReLU network: consistency, sieve-based convergence rate, and asymptotic normality. To validate the theoretical results, a Monte Carlo analysis is provided.
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A multi-layer, multi-node ReLU network is a powerful, efficient, and popular tool in statistical prediction tasks. However, in contrast to the great emphasis on its empirical applications, its statistical properties are rarely investigated. To help closing this gap, we establish three asymptotic properties of the ReLU network: consistency, sieve-based convergence rate, and asymptotic normality. To validate the theoretical results, a Monte Carlo analysis is provided.
