Research articles for the 2020-04-24

An Empirical Study on Abnormal Return Around Buyback Announcements by Indian Firms
Vyas, Hiral,R.K., Patel
This paper examines the market response surrounding the share buyback announcements of large capitalised Indian companies from years 2010 to 2016 covering 73 firms. T-test was carried out to identify the abnormal return in the range before and after 10 days from share buyback announcements. The result shows a significant positive abnormal return during that period. The finding is supported with information asymmetric, which shows that stock market reacts more favourably through the repurchase announcements by large firms. This study is consistent with the signalling hypothesis that shows share repurchase announcement can be an effective tool generating abnormal return to the shareholders in the stock market in India.

Automatability and Capital Structure
Qiu, Jiaping,Wan, Chi,Wang, Yan
This paper examines the relation between a firm’s exposure to automation technologies and its capital structure decision. We show that the automation threat has a positive impact on a firm’s leverage. We explore two effects of automation threat on leverage: first, automation threat compresses the wage premium demanded by workers from the use of financial leverage, which allows firms to increase financial leverage; second, automation threat makes the labor market protection less effective and increases firms’ operating leverage, which allows firms to increase financial leverage. Our empirical findings support both effects. Furthermore, we also tackle the endogeneity of a firm’s capital structure decision by instrumenting a firm’s exposure to automation technology advancement using the robotics adoption in European countries. We show that our results are not driven by any endogeneity concerns. We contribute to the literature of labor economics and finance by making the first attempt to understand how the supply of automation technologies affect corporate capital structure.

COVID-19 and the Power of Discounting in Stock Markets
Junttila, Juha-Pekka
We find that after the Global Financial Crisis (GFC) since 2008 the standard dividend discount model of the stock market behaviour has not been operational as such in the European and US stock markets when the nominal and/or real short-term interest rates have been below zero or at the zero lower bound. However, when we augment the discount model with relevant contemporaneous observations on stock market and macroeconomic uncertainty indicators, the main macro factors in the discount model retain their explanatory power in the valuation of common stocks. We also find that the current extraordinarily serious threat on future real economic activity development caused by the COVID-19 crisis is the main factor affecting also the deep dive in the valuation of stock market assets, both in the European and US data. Nevertheless, based on our results, both the nonlinear effects from stock market tail risks, reflecting investors' fears of rare disasters, and from unconventional monetary policy actions have to be accounted for in order to reach the final effects of worsening future real economic prospects in the discounting behaviour of stock market investors. According to our results it also seems that the most relevant remedy for the current crisis are the unconventional monetary policy actions from the stock market discounting point of view.

Common Fund Flows: Flow Hedging and Factor Pricing
Dou, Winston,Kogan, Leonid,Wu, Wei
We consider an economy populated by myopic investors, in which some investors delegate their investment decisions to active fund managers. Managers care about the size of the fund, which fluctuates due to fund returns and fund flows. They have hedging motives against fund flow fluctuations, thereby tilting their portfolios towards stocks with low flow betas. The resulting demand boosts the valuation of low-flow-beta stocks. In equilibrium, fund flows, together with net alphas, endogenously respond to variation in investment opportunity set, and thus risk premium analogous to the hedging term in the ICAPM emerges even in a myopic environment. In the data, we find that fund-level flows obey a strong factor structure, largely driven by macro uncertainty, and that shocks to the common fund flows factor are priced. We also document that fund portfolios are tilted for flow hedging at the expense of losing Sharpe ratio. Particularly, we examine the portfolio choice of mutual funds after the outbreak of the US-China trade war which leads to an exogenous increase in the flow beta of China-related stocks. In such a quasi-natural experiment, we find that active mutual funds rebalance their portfolio holdings of the China-unrelated stocks towards low-flow-beta stocks, consistent with their flow hedging motives. Exploiting the outbreak of US-OPEC oil price war and US natural disasters as additional instruments, we further greatly strengthen our findings.

Credit Default Swaps and the Cost of Capital
Bhabra, Harjeet,Francois, Pascal,Walker, Thomas John,Wang, Chunrong
This study uses the universe of US public firms to examine the impact of credit default swap (CDS) trading on a firm’s cost of capital during the period 2001 â€" 2018. Our results robustly show that the inception of CDSs causes a significant reduction in a firm’s weighted average cost of capital (WACC). We also find an increase in the number of analysts who recommend buying CDS firms’ stocks post-CDS trading, suggesting an improvement in the firms’ information environment. Further analyses reveal that highly levered firms tend to reduce their debt weight, while firms with low leverage increase their usage of debt. In equilibrium, we find a marginally decreased net debt issuance post-CDS trading. Moreover, CDS referenced firms adjust their debt placement by using more arm-length debts, while they simultaneously decrease the usage of revolving credits and term loans from banks. The change in capital financing choices may be ascribed to the improved information environment and reflects the fact that CDS trading increases debt renegotiation costs and simultaneously reduces capital supply side frictions.

Do Directors Drive Corporate Sustainability?
Iliev, Peter,Roth, Lukas
We use exogenous variation in the exposure of U.S. firms’ directors to the staggered introduction of environmental and social (E&S) reforms in foreign countries to study the role of the Board of Directors in shaping U.S. firms’ E&S performance. Using a difference-in-differences design, we document a strong impact of the Board of Directors on U.S. firms’ overall E&S performance, and we find that this effect is concentrated in firms’ environmental commitments. The shock transmission is stronger in ‘clean’ industries and firms with lower financial risk and less institutional ownership. Firms exposed to E&S shocks have greater subsequent firm performance and productivity.

Van Hemert, Otto,Ganz, Mark,Harvey, Campbell R.,Rattray, Sandy,Sanchez Martin, Eva,Yawitch, Darrel
Common risk metrics reported in academia include volatility, skewness, and factor exposures. The maximum drawdown statistic is rarely calculated, perhaps because it is path dependent and estimated with greater uncertainty. In practice, however, asset managers and fiduciaries routinely use the drawdown statistic for fund allocation and redemption decisions. To help such decisions, we begin by quantifying the probability of hitting a certain drawdown level, given various return distribution properties. Next, we show that drawdown-based rules can be particularly useful for improving investment performance over time by detecting managers that lose their ability to outperform. This can happen as a result of structural market changes, increased competition for the type of strategy employed, staff turnover or a fund accumulating too many assets. Finally, we show that drawdown-based rules can be used as a risk reduction technique, but this impacts both expected returns and risk.

Financial Innovation, Payment Choice and Cash Demand - Causal Evidence from the Staggered Introduction of Contactless Debit Cards
Brown, Martin,Hentschel, Nicole,Mettler, Hannes,Stix, Helmut
We examine how an innovation in payment technology impacts on consumer payment choice and cash demand. We study the staggered introduction of contactless debit cards between 2016-2018. The timing of access to the contactless technology is quasi-random across clients, depending only on the expiry date of the existing debit card. Our analysis is based on administrative data for over 21’000 bank clients and follows a pre-analysis plan. Average treatment effects show that the receipt of a contactless card increases the use of debit cards especially for small-value payments. However, we find only a moderate average reduction in the cash share of payments and no reduction of average cash demand. Treatment effects on payment choice are strongest among consumers with an intermediate pre-treatment use of cash. Explorative analyses reveal that effects are largely driven by young consumers in urban locations.

Foreign Demand and Local House Prices: Evidence from the Us
Ari, Anil,Puy, Damien,Shi, Yu
We test whether foreign demand matters for local house prices in the US using an identificationstrategy based on the existence of 'home bias abroad' in international real estate markets.Following an extreme political crisis event abroad, a proxy for a strong and exogenous shift inforeign demand, we show that house prices rise disproportionately more in neighbourhoods witha high concentration of population originating from the crisis country. This effect is strong,persistent, and robust to the exclusion of major cities. We also show that areas that were alreadyexpensive in the late 1990s have experienced the strongest foreign demand shocks and thebiggest drop in affordability between 2000 and 2017. Our findings suggest a non-trivial causaleffect of foreign demand shocks on local house prices over the last 20 years, especially inneighbourhoods that were already rather unaffordable for the median household.

How Preferences for Round Numbers Affect Choices: Stickiness and Jumpiness in Credit Card Payments
Sakaguchi, Hiroaki,Gathergood, John,Stewart, Neil
We explore the effects of round number preferences in credit card payments. Payments at round numbers are very common: 70% of manual non-full credit card payments are at round numbers. Using minimum payment amounts as a natural experiment for the lower bound on payments, we show stickiness in payment amounts in the wide interval between round number bounds yet jumpiness in payment amounts in the narrow interval across round number bounds. Round number preferences can therefore lead to over-estimation of both inattention, and responsiveness, to policies. Our findings have implications for models of inattention and for policy evaluation methods.

Love in the Time of COVID-19: The Resiliency of Environmental and Social Stocks
Albuquerque, Rui A.,Koskinen, Yrjo,Yang, Shuai,Zhang, Chendi
The COVID-19 pandemic and the subsequent lockdown brought about a massive slowdown of the economy and an unparalleled stock market crash. Using U.S. data, this paper explores how firms with high Environmental and Social (ES) ratings fare during the first quarter of 2020 compared to other firms. We show that stocks with high ES ratings have significantly higher returns, lower return volatilities, and higher trading volumes than other stocks. Firms with high ES ratings and high advertising expenditures perform especially well during the crash. This paper highlights the importance of ES policies in making firms more resilient during a time of crisis.

Necessary but Not Sufficient: Stay Upon Resolution via Bail-In
Huertas, Thomas,Huertas, Michael
The bail-in tool for the resolution of failing banks depends critically on suspending the right of counterparties to terminate qualified financial contracts (QFCs) such as derivatives and repos. In theory, the stay provides the resolution authority with the time necessary to recapitalise and stabilise the failing bank, so that the bank in resolution can operate “normally” upon reopening.In practice, the stay is likely to be insufficient. It is neither unconditional, nor uniform, nor comprehensive. Above all, it is temporary. Upon reopening, counterparties are likely to refuse to roll over maturing obligations as well as demand additional collateral for QFCs that remain outstanding. Policymakers must therefore ensure that the bank-in-resolution has access to adequate liquidity upon reopening.

Nothing but Noise? Price Discovery between Cryptocurrency Exchanges
Dimpfl, Thomas,Peter, Franziska
We examine the price discovery contributions of cryptocurrency exchanges in the presence of market microstructure noise. Cryptocurrency markets exhibit a decisively higher level of microstructure noise compared to the New York Stock Exchange or NASDAQ. Therefore, traditional measures of price discovery are potentially biased. To overcome this concern, we draw on the information leadership share (ILS) proposed by Putninš [2013, J.Emp.Fin]. Based on the ILS, we find that Bitfinex is the leader in the price discovery process. Our results highlight the importance of accounting for different levels of noise when evaluating price discovery contributions

Oil Shocks, Economic Policy Uncertainty, Financial Uncertainty and Global Stock Market: The Role of U.S. Oil Production Over the Financial Crisis
Sakaki, Hamid
Using monthly data from January 1985 to December 2018, I examine the impact of oil shocks, economic policy uncertainty and financial uncertainty on the global stock market. I find a negative and persistent effect of economic policy uncertainty and financial uncertainty of the U.S. on global stock market. Moreover, I confirm that positive shocks to the U.S. oil production and demand for crude oil have a significant and positive influence on global stock returns over the financial crisis. I also examine the impact of oil shocks on economic policy uncertainty and financial uncertainty and find that positive U.S. oil production shocks alleviate economic policy uncertainty and financial uncertainty over the financial crisis time period.

Pension Reform in the Netherlands
Westerhout, Ed
During the last decade, the Dutch have debated intensively reforming their second-pillar pension scheme. Meanwhile, ten years turned out to be a too short period for pension funds to bring their funding ratios to sound levels, due to among others the worldwide decline of interest rates. Currently, the Dutch government and the social partners have come up with a quite concrete reform plan. The plan includes three main points: i) make the move towards actuarially fair pension accruals, ii) strengthen the link between benefit levels and capital market rates of return and iii) introduce the option to take up part of accrued pension wealth at retirement. This paper reviews and interprets the plan for pension reform.

Perfect Market, Arbitrage, and Value Creation in the MM Proposition
Abad, Pharos
The real contributions of the MM Proposition are its central assumptions of perfect capital markets and the associated arbitrage argument. In this text, we review the perfect market assumptions and no-arbitrage principle. Then, to explain the evolution of the understanding of arbitrage from a deterministic world into an uncertain world, we restate and comment on the proofs of the MM Proposition in current perspectives. With the no-arbitrage principle in mind, we clearly read the circular justification in the MM Proposition and the misleading concept of cost of equity. From the perspective of the distribution of a corporation's value creation, we find that shareholders prefer a maximum degree of debt. However, we believe that the capital structures are mainly constrained by industry characteristics and the market timing of equity and debt financing.

Preferred Portfolios: An Improved Blueprint to Construct Multi Strategy Portfolios
Kestner, Lars N.
This paper introduces a blueprint for combining individual strategies into a robust portfolio using five principles. » Continued research is paramount to replenish individual strategies as performance wanes over time » Identifying and classifying strategies correctly based on their dynamic return characteristics leads to temporal validity in portfolio performance » Employing strategies on a diverse set of markets increases the opportunity set available » Understanding the benefits and limitations of diversification guides manager decisions for research and resource allocation » Sufficient time is required to give portfolios the opportunity to prosper from the skill in the investment program Together these five elements build the basis of Statistically Applied Trading (Saτ).

Regulatory Oversight and Managerial Ability
Hesarzadeh, Reza
I examine whether regulatory oversight affects managerial ability. To measure regulatory oversight, I use comment letters from two Iranian regulatory agencies. Furthermore, to measure managerial ability, I employ managerial ability-score introduced by Demerjian et al. (Management Science 58(7):1229â€"1248, 2012). Using a difference-in-differences design with a propensity score matching approach, I reveal that the managerial ability of a firm is enhanced following the receipt of a comment letter by the firm. I further reveal that the managerial ability of a firm is enhanced following the receipt of a comment letter by the firm’s industry peers. Collectively, the findings highlight the internalities and externalities of regulatory oversight in the context of managerial ability.

Review and Analysis of All Shareholder Letters from Warren Buffett and Jeff Bezos
Mooers, Jiaan
Warren Buffett with Berkshire Hathaway, Inc. and Jeff Bezos with Inc. have each developed their respective companies into successful multibillion dollar corporate enterprises. Their personal wealth based on stock ownership in the companies they founded positions these men as two of the wealthiest individuals in the world. As CEOs whose outlooks, comments and actions have the power to move markets, Buffett and Bezos command the attention of shareholders, investors, business leaders, politicians and other market makers from around the world. A perusal and interpretation of their shareholder letters will certainly provide some insight into the workings of two of the greatest business minds ever. Unlike annual reports, which rely on historical financial data in formats mandated by the SEC, no requirements exist regarding style, content and structure of a shareholder letter.

Saving Lives Versus Saving Livelihoods: Can Big Data Technology Solve the Pandemic Dilemma?
Xiao, Kairong
This paper studies the effectiveness of big data technology in mitigating the economic and health impacts of the COVID-19 outbreak. I exploit the staggered implementation of contact-tracing apps called ``health codes'' in 319 Chinese cities during the COVID-19 pandemic. Using high-frequency variations in population movements and greenhouse emission across cities, I disentangle the effect of big data technology from confounding factors such as public sentiments and government responses. I find that big data technology significantly improves the tradeoff between human toll and economic costs. Cities adopt contact-tracing apps experience a significant increase in economic activities without suffering from higher infection rates. Overall, big data technology creates an economic value of 0.5%-0.75% of GDP during the COVID-19 outbreak in China.

The Effects of Organized Crime on Distressed Firms
De Martiis, Angela
This study captures the presence of organized crime groups in the Italian territories and examines their relationship to firms that are in a condition of financial distress. At the end of the nineteenth century the first criminal groups emerged in the South of Italy as a response to the demand for private protection by local landlords. Using firm-level data and detailed information on organized crime activities, this paper tests the hypothesis that organized crime groups support financially distressed companies by supplying them with private protection in the form of access to credit. The results show a higher concentration of distressed firms in regions with a high presence of organized crime groups. The relationship is further tested by the introduction of a novel instrument that exploits unique data on episodes of family-related homicides that have been investigated since the 1990s.

The Impact of COVID-19 on Bitcoin Trading Activity: A Preliminary Assessment
Johnson, Jackie
A preliminary examination of Bitcoin’s trading activity around the time of COVID-19, Oct9ober 2019 to March 2020 finds that in the first five months of that period, both transaction levels and Bitcoins traded are heavily influenced by the day’s opening Bitcoin price. That relationship begins to diverge in March 2020. With recent research finding a high correlation between changes in the Bitcoin price and the impact on the stock market of COVID-19, it would appear that Bitcoin is not behaving independent of market conditions as expected, but has become inexorably linked to the stock market, which in turn has experienced the impact of government controls on businesses and individuals. It will be interesting to see if Bitcoin regains its independence in the months ahead or has it lost its reason for existence.

The Law and Economics of Investing in Bankruptcy in the United States
Ellias, Jared A.
Claims trading has become a significant and controversial feature of American bankruptcy practice over the past thirty years. This Report chronicles the rise of claims trading in the second decade of the Bankruptcy Reform Act of 1978 and analyzes the various policy concerns it raises. Most importantly, claims trade has led to, and been accelerated by, the development of an industry of specialized distressed investor who raise billions of dollars of capital to buy and sell the claims of Chapter 11 debtors. Despite attracting periodic concerns from policy-makers, the legal institutions of Chapter 11 appear to have mostly proven capable of handling the concerns raised by claims trading. In sum, the best interpretation of the available empirical evidence is that claims trading and activist investing has, at the very least, not harmed Chapter 11 or distressed corporations and may have actually improved the capacity of the American bankruptcy system to reorganize distressed assets.

The Valid Regions of Gram-Charlier Densities
Lin, Wei,Zhang, Jin E.
If a probability distribution is sufficiently close to a normal distribution, its density can be approximated by the truncated Gram-Charlier series where skewness and kurtosis directly appear as parameters. However, the existing literature is restricted to truncating the series expansion until the fourth moment because it becomes difficult to keep its non-negativity. This paper shows how the valid region of higher cumulants can be numerically implemented by the semi-definite algorithm, which ensures that a series truncated at a moment of arbitrary even order represents a valid probability density. Furthermore, the impact of higher moments on the valid regions has been shown.

Why Do Turkish REITs Trade at Discount to Net Asset Value?
Coskun, Yener,Erol, Isil,Morri, Giacomo
Discount to net asset value (NAV) has been a long-standing problem for the Turkish REITs (TREITs) implying some serious weaknesses for the industry with some potential portfolio management problems. The goal of the paper is to explore main determinants of NAV discount in the context of rational and noise trader approaches over the period of 2010 Q1 and 2018 Q1 for 18 TREITs. Employing a unique data set, the present paper is the first NAV-based REIT pricing study for TREITs in the existing empirical literature. We run an unbalanced panel data by employing pooled OLS regressions and employ two dependent variables involving levered and unlevered NAV discount rates, respectively. The results mainly suggest that levered NAV discount in TREITs can be explained by the financial performance, leverage, liquidity, size, market sentiment, and appraisal bias besides the EPRA membership and property focus (e.g. retail REIT). We argue that the higher leverage and better financial performance result in lower levered NAV discounts and that fair value accounting may result in higher NAV discounts due to appraisal bias.