European Financial Management 2019 Archive

January 2019, VOL 25:1 March 2019, VOL 25:2 June 2019, VOL 25:3 September 2019, VOL 25:4 November 2019, VOL 25:5

European Financial Management, VOL 25:1, January 2019

An International Analysis of CEO Social Capital and Corporate Risk-Taking


This study examines the effects of CEO social capital on corporate risk-taking around the world. We document a significant positive relation between CEO social capital and aggregate corporate risk-taking. Further, we find that CEOs with large social capital prefer riskier investment and financial policies. We also determine that the effect of CEO social capital on corporate risk-taking is moderated by the extent of legal protections provided to shareholders, the financial development, and the culture of the country in which a firm is incorporated. Our results are robust to alternative proxies of risk-taking, alternative model specifications, and tests for endogeneity.

Keywords: Social capital, social networks, corporate risk-taking

JEL Classification: G30, Z13

Target Information Asymmetry and Takeover Strategy: Insights from a New Perspective


We examine the relation between information asymmetry and firm value around an M&A. Due to the due diligence and intense scrutiny around M&A announcements, acquisitions are significant shocks to a target’s information asymmetry. We find that M&A announcement-period wealth gains are significantly related to a target’s information asymmetry and the relationship is concentrated in same-state or same-industry mergers. Our difference-in-difference analysis shows that the wealth effects become weaker when overall information environment improves. Furthermore, we document that information asymmetry is an important factor in target selection and the likelihood of diversifying deals, deal size, and deal closure time.

Keywords: Information asymmetry, acquisitions, Firm valuation.

JEL Classification: G14, G34

Do Investment Banks Create Value for their Clients? Empirical Evidence from European Acquisitions


Europe provides an interesting setting to explore the role that investment banks play in acquisitions because it is composed of countries with different legal regimes—the shareholder-oriented common law regime in the UK/Ireland and the stakeholder oriented civil law regime in Continental Europe. Since investment banks are hired to act in the interests of shareholders, and due to differences in disclosure requirements, market transparency, accounting standards and ownership between the UK and Continental Europe, I argue that investment banks are relatively more important in UK-only acquisitions. My findings support this conjecture.

Keywords: Hedge funds, private equity, alternative assets, portfolio choice, asset allocation

JEL Classification: G11, G14, G23

Sentiment, Order Imbalance and Co-movement. An Examination of Shocks to Retail and Institutional Trading Activity


Using order flow imbalance as a measure of sentiment we show that positive and negative shocks to sentiment lead to lower co-movement between portfolio and market returns in the post-shock period. Furthermore, an asymmetry is present as positive shocks to sentiment have less impact on co-movement changes than negative shocks. Moreover, shocks to retail sentiment and the sentiment of two types of institutional investors leads to a reduction in co-movement. Positive shocks to institutional order flow imbalance lead to smaller reductions in co-movement than associated with retail shocks. These effects exist even after controlling for firm specific and market-wide news.

Keywords: Order flow shock and sentiment, co-movement, smooth transition model

JEL Classification: G12, G14

The Payback of Mutual Fund Selectivity in European Markets


Is European fund management selectivity skill (1-R2) profitable (alpha)? To examine this question, we use a sample of 2,947 actively-managed domestic equity mutual funds from 11 European countries. We find that high fund selectivity generates significant investor gains. The results are robust to investor sentiment and stock-market dispersion conditions. Moreover, we investigate the moderating effect of country characteristics on the profitability of fund selectivity and find that managers’ selectivity ability is more valuable in countries with high economic development, strong legal system, small but highly liquid equity markets, and young mutual fund industries.

Keywords: European fund selectivity skill, fund manager skill, fund performance.

JEL Classification: G11, G14, G20, G23

Stock Market Integration, Cost of Equity Capital and Corporate Investment: Evidence from Brazil


We study the effect of stock market integration on the cost of capital and investment, using Brazil as a case study. We show that integration, as proxied by foreign ownership, has a positive impact on the financing side by reducing cost of capital. On the output side, we find that integration increases corporate investment, but only for well-governed firms. We contribute to the debate on the pros and cons of financial globalisation, particularly by providing evidence of important linkages between financial integration and real economic activity.

Keywords: Stock Market Integration; Cost of Capital; International Asset Pricing; Investment

JEL Classification: F65, F61, F36, G15, G12

Intangible Assets and the Book-to-Market Effect


The book-to-market effect is well known, but prior research does not analyze the impact of goodwill and related transformations in accounting rules that may bring significant changes to the effect. This paper analyzes the impact of SFAS 142, Goodwill and Other Intangible Assets, issued in 2001. I find that the book-to-market effect is weaker in the post-SFAS 142 period especially in the firms that have goodwill, impairment loss or risk. The book-to-market effect is stronger for subsamples of firms that do not have goodwill. These findings are robust to size groups, different factor models, and test methods.

Keywords: fair-value accounting, valuation of R&D, goodwill impairment, value premium

JEL Classification: G12, M41, O3

European Financial Management, VOL 25:2, March 2019

The Face of Risk: CEO’s Facial Masculinity and Firm Risk

Shinichi Kamiya, Y. Han (Andy) Kim, and Soohyun Park

We examine whether a male CEO’s facial masculinity, measured by facial width-to-height ratio (fWHR), predicts the riskiness of his firm. Using the face pictures of 1,162 CEOs in the Execucomp database, we find supporting evidence. Firms with more masculine-faced CEOs have higher stock return volatility and higher financial leverage and are more acquisitive. Their frequency of acquisitions, the dollar amount spent on acquisitions, and the takeover premium are all higher. We find that more masculine-faced CEOs’ compensation is more sensitive to the risk of the firm. The result is robust when we use AI (artificial intelligence)-measured fWHR of the CEOs.

Keywords:Masculinity, Testosterone, Risk, CEO, Leverage, M&A, fWHR, Vega

JEL Classification: G02, G32, G34, M1, Z1

Does Size Matter in Predicting Hedge Funds’ Liquidation?

Adrien Becam, Andros Gregoriou, and Jairaj Gupta

In this study, we propose a set of covariates that exploit information content of hedge funds’ relative size, performance, growth, tail risk, and past liquidation rate, in predicting their liquidation. Empirical results show that our proposed covariates exhibit significant predictive power for up to two years even when we control for fund specific characteristics. Furthermore, we estimate separate liquidation prediction models for small, medium, and large funds. Our findings suggest that liquidation likelihood of hedge funds is inversely related to fund size, and statistical significance of factors affecting their liquidation vary across different size categories.

Keywords: hedge fund, liquidation, fund size, failure, default

JEL Classification: G11, G17, G33

Discounting Methods and Personal Taxes

Michael Dempsey

We advance models of valuation that incorporate personal taxes. The models are general in allowing for uneven cash flows, changes in debt levels, and changes in the costs of equity and debt. The models are mutually consistent and are consistent with the CAPM and Modigliani and Miller propositions allowing personal taxes.

Keywords: Valuation, Taxes, Tax system, CAPM, WACC.p

JEL Classification: G12, G31, G38

Is Bank Capital Sensitive to a Tax Allowance on Marginal Equity?

Jose Martin Flores and Christophe Moussu

This paper studies how bank capital changes following the implementation and removal of a tax incentive on equity. We examine the impact of the introduction of a tax allowance in Italy granted to banks (and other firms) that increase their equity from a base year. Using a difference-in-differences setting, we observe an 8.83% increase in bank capital ratios following the implementation of this reform. When this tax mechanism is phased out, we observe an opposite effect on the equity ratio, showing the absence of a hysteresis effect in bank capital. We document a heterogeneous effect for large and small banks.

Keywords: Tax, bank capital, debt-equity tax bias.

JEL Classification: G21, G28, G32.

Contingent Capital with Repeated Interconversion Between Debt- and Equity-like Instruments

Yanping Cai, Zhaojun Yang, and Zhiming Zhao

This paper introduces a new form of contingent capital, contingent convertible securities (CCSs), which might repeatedly convert between debt- and equity-like instruments depending on financial conditions. We derive explicit prices of corporate securities, assuming the cash flow is modeled as a geometric Brownian motion. We present an explicit value of the increased tax shields due to CCSs. We provide an explicit optimal capital structure when CCSs are issued and interestingly, the ratio of the optimal straight bond coupon to CCS coupon is constant and independent of the firm’s financial conditions. All the conclusions hold true also for contingent convertibless.

Keywords: contingent capital, repeated interconversion, capital structure

JEL Classification: G12, G32

The Information Content of the Implied Volatility Term Structure on Future Returns

Yaw-Huei Wang and Kuang-Chieh Yen

We derive the theoretical relation between the term structure of implied variance and the expected excess returns of the underlying asset. Adopting three alternative approaches to compile the variables representing the information on the implied volatility index level and term structure, we show the important role of the term structure in determining future excess returns of the S&P 500 index. Both the in-sample and out-of-sample analyses suggest that the information content of the term structure variable is significant and a strong complement to that of the level variable, especially for shorter-term excess returns.

Keywords: VIX term structure, Predictability, S&P 500 index returns

JEL Classification: G13, G14

Securitization and Credit Quality in the European Market


We assess the effect of securitization activity on relative credit quality employing a uniquely detailed dataset from the euro-denominated syndicated loan market. We find that at issuance, based on observable characteristics, banks do not seem to select and securitize loans of lower credit quality. Following securitization, the credit quality of borrowers whose loans are securitized deteriorates more than those in the control group. We find that poorer performance by borrowers of securitized loans seems to be connected to banks’ reduced monitoring incentives. Our results are supported by two additional methodologies and robust to controlling for predetermined borrower-lender matching.

Keywords:Securitization; credit risk; European market

JEL Classification: G21; G28

European Financial Management, VOL 25:3, June 2019

When do Investment Banks use IPO Price Support?

Sturla Fjesme

Practitioners, regulators, and the financial media argue that underwriters tie Initial Public Offering (IPO) allocations to investor post-listing buying of the issuer shares in a process labelled price support. Arguably, this excess demand boosts post-listing returns which underwriters trade quid-pro-quo with investor stock-trading-commission payments. In this paper, I investigate unique data from the Oslo Stock Exchange (OSE) including investor stock-trading-commissions, IPO allocations, and post-listing trading. I document that investors who provide high returns to underwriters before IPOs benefit from price support through increased returns in IPOs. I conclude that price support is used when investors share boosted returns with underwriters.

Keywords:IPOs, Price Support, Stock-trading commission

JEL Classification: G24

Exploring the Short- and Long-run Links from Bank Competition to Risk -reconciling Conflicting Hypotheses?


The current literature offers diverse findings on the bank competition-risk relation. We seek to advance understanding by looking at both short- and long-run relations for banks from 27 EU countries, using a six-year period before and since 2007 and employing both the H-statistic and the Lerner index as measures of competition. We thus highlight further nuances in the competition–risk relation that are absent from the current literature. Both measures have a positive short-run relation with risk, while long-run effects differ. Underlying this, the competition measures differ in their relation to the volatility of profits, with important policy implications.

Keywords: Bank competition, financial stability, EU banking markets, Lerner index, Panzar–Rosse H-statistic, Z-score

JEL Classification: G21, G28

Equity Issues When in Distress

Mark D. Walker, Qingqing Wu

We investigate the role of financial distress in the seasoned equity market. We find that distressed firms comprise about 40% of SEOs and these distressed issuers have worse abnormal announcement returns than non-distressed issuers. Stock return volatility is an important determinant for announcement returns for non-distressed SEO issuers but not for distressed SEO issuers. Signals of firm quality are associated with better announcement returns, larger issues, increased investment, improved operating performance, and lower likelihood of delisting for distressed SEO firms as compared to non-distressed firms. Our findings suggest equity finance is valuable for financially distressed firms with strong growth prospects.

Keywords: Financial Distress, SEO

JEL Classification: G31; G32

The Impact of the Morningstar Sustainability Rating on Mutual Fund Flows

Manuel Ammanna, Christopher Bauerb, Sebastian Fischerc, Philipp.

We examine the effect of the introduction of Morningstar’s Sustainability Rating in March 2016 on mutual fund flows. Exploiting this shock to the availability of sustainability information we find strong evidence that retail investors shift money away fromlow-rated and into high-rated funds. An average high-rated retail fund receives between$4.1m and $10.1m higher net flows and an average low-rated retail fund suffers from$1.0m to $5.0m lower net flows than an average-rated fund during the first year afterthe publication of the Rating. Institutional investors react much more weakly to the publication of the Rating.

Keywords: Mutual Fund, Sustainability, Investment Decisions, Information

JEL Classification: G11, G14, G23

Confucianism, Cultural Interactions and Corporate Investment Efficiency

Lei Chen, Zhi Jin,Yongqiang Ma, and Hui Xu

Our study presents robust findings that Confucianism significantly improves investment efficiency of Chinese listed firms and that the improvement is achieved through decreasing overinvestment without inducing underinvestment. Financial reporting quality is found to be an important mechanism for the disciplinary effect of Confucianism to work. More importantly, we provide strong and consistent evidence that openness to the West neutralizes the role of the Confucianism in overinvestment. Against the backdrop of globalization, this paper offers valuable references to emerging markets that experience intensive interactions with developed economies.

Keywords:Confucianism, Openness to the West, Investment efficiency, Financial reporting quality

JEL Classification: G31, G32, G34, M41, Z10

The Positive Externalities of CEO Delta

Hongrui Feng and Yuecheng Jia.

Increases in Delta incentives are dramatic for a small group of firms (leader firms) but negligible for the majority. We show that leader firms have larger market capitalization and higher irreversibility, and are in industries with negative shocks. When leader firms experience substantial growth in Delta incentives, industry peers experience positive abnormal returns and abnormal improvement in fundamentals despite no significant change in Delta. Further, we provide evidence that abnormal returns are induced by peer CEOs’ extra efforts in response to the increasing competitive pressure caused by leader firms. To mitigate their competitive pressure and turnover threat, peer CEOs allocate their extra efforts to firms’ operating efficiency and product differentiation.

Keywords: : CEO Delta incentive, Positive externality, Incentive spillover.

JEL Classification: G14, G34

Does Individualistic Culture Impact Operational Risk?

Zhe (Andrew) An, Zhe Cao, Zhian Chen and Donghui Li

Employing a sample of 2957 operational-risk events across 31 countries from 1990 to 2011, we find that financial institutions located in countries with higher individualism tend to have higher operational risk. This positive relation is achieved through the risk-taking channel and the earnings-management channel. In addition, the magnitude of operational losses is higher in more individualistic countries. The results suggest that individualism serves as an important informal institutional determinant of operational risk in an international context. Endogeneity tests and various robustness checks confirm our findings.

Keywords: Operational Risk, Individualism, National Culture

JEL Classification: G20, G32, G15

Lottery Preferences and the Idiosyncratic Volatility Puzzle

Doina C. Chichernea, Haimanot Kassa, and Steve Slezak

We investigate the empirical implications of investors’ heterogeneous preferences for skewness with respect to the idiosyncratic volatility (IVOL) puzzle, that is, the negative correlation between IVOL and mean returns. We show that the IVOL puzzle is stronger 1) within stocks held primarily by agents with a preference for lottery-like payoffs and 2) during economic downturns, when the demand for lottery-like payoffs is high. These results support recent theories that suggest lottery preferences could be a significant source of the IVOL puzzle.

Keywords: Idiosyncratic volatility; skewness; lottery preferences; economic conditions.

JEL Classification: G11; G12

Creative Culture, Risk-taking, and Corporate Financial Decisions

Erdem Ucar

I examine how creative culture affects corporate financial decisions. Firms have corporate risk-taking behavior and policies consistent with variations in local risk-taking propensity induced by creative culture. Firms located in areas with a strong creative culture have higher levels of risk exposure, investment, and growth. These firms also accumulate more cash consistent with the precautionary motive. My findings remain robust after controlling for endogeneity and a series of robustness checks. The empirical findings are consistent with the risk-taking tendency associated with creativity and creative culture. This paper introduces the role of creative culture and risk-taking in corporate financial decisions.

Keywords:Creative Culture, Corporate Risk-taking, Cash Holdings, Local Factors

JEL Classification: G30, G31, G32

How Do Speculators in Agricultural Commodity Markets Impact Production Decisions and Commodity Prices? A Theoretical Analysis

Christian Koziol and Tilo Treuter

We analyze the impact of speculative trading in agricultural commodity markets on major economic quantities. We consider a theoretical model with production shocks, in which a farmer interacts with a retailer in both, the spot and the forward market. The contribution of the paper is twofold: First, we show that the current forward price drives agricultural production decisions. Since the forward trading ofspeculators influences the forward price, they indirectly affect production decisions. Second, we identify crucial variables determining whether speculative trading is beneficial or dangerous, such as the correlation between the speculators’ portfolio and the commodity prices, the risk premium ofthe forward, and the producer’s gains

Keywords: :speculative trading, production decisions, commodity spot prices

JEL Classification: Q02, D53

European Financial Management, VOL 25:4, September 2019

Overreaction to Growth Opportunities: An Explanation of the Asset Growth Anomaly

Charlie X. Cai, Peng Li and Qi Zhang

The negative relation between asset growth and subsequent stock returns is known as the asset growth anomaly. We propose that overreaction to growth opportunities is the source of the asset growth anomaly. This suggests that growth firms as opposed to mature firms, and firms with longer series of asset growth should experience a stronger asset growth anomaly. Our evidence supports these predictions.

Keywords: : Asset growth, Anomaly, Overreaction, Growth opportunities, US market.

JEL Classification: G1, M4

Does MAX Matter for Mutual Funds?

Bradley A. Goldie,Tyler R. Henry,Haimanot Kassa

Extreme returns (MAX) have been shown to impact future expected stock returns. We examine whether this relationship is present in mutual fund returns. We find that high MAX funds, as measured by past extreme daily returns, underperform both in portfolio sorts and cross-sectional tests. We further test possible explanations for why MAX funds underperform. First, we measure mutual fund flows to determine investor response to MAX. Second, we examine the underlying holdings of MAX funds to measure their concentration in MAX stocks. We find evidence that both fund flows and holdings contribute to the MAX effect on mutual fund returns.

Keywords: : Mutual fund flows and performance, MAX, lottery preferences, skewness

JEL Classification: G11, G23

How Friends with Money Affect Corporate Cash Policies? The International Evidence

David Javakhadze, Tijana Rajkovic

We examine the association between managerial social capital and the cash flow sensitivity of cash in an international setting. We find that social capital reduces the marginal propensity to save cash out of cash flows. This association is stronger for more financially constrained firms, firms with high hedging needs, and firms with more uncertain cash flows. The effect of social capital is partially moderated by the extent of legal protection standards and financial development. We also show that social capital matters for valuation. These findings are robust to alternative model specifications, alternative variable measurement, and tests for endogeneity.

Keywords: : Social capital, social networks, cash management

JEL Classification: G32, Z13

Board Structure and Role of Outside Directors in Private Firms

Huasheng Gao and Zhongda He

We examine the board composition and the role of outside directors in U.S. private firms. We find that compared with public firms, private firms have a higher proportion of outside directors on the boards and select their outside directors in a more responsive way to their advisory and monitoring needs. We also find that private firms’ CEO turnover-performance sensitivity, earnings quality, going-public likelihood, and IPO value increase with the proportion of outside directors. These results are consistent with the view that lack of external governance in private firms leads to a greater demand for board monitoring for private firms.

Keywords: : Private firms, Public firms, Outside director, Monitoring role, Advisory role, Earnings quality, External governance, Information environments

JEL Classification: G32, G34, L22

Hedge Fund Leverage: 2002-2017

Bing Liang and Liping Qiu

Using a large panel data, we investigate the dynamics of hedge fund leverage from 2002 to 2017 and find considerable variations in both time series and cross-section. More than 70% of hedge funds use leverage and almost half of the leveraged funds are levered through margin borrowing. On average, hedge funds decrease leverage prior to the beginning of the financial crisis, with leverage remaining below the pre-crisis levels. We find that the level of leverage and its changes are related to fund characteristics such as age, governance, performance, risk, fees, liquidity, survival, and the birth of a new fund

Keywords: Hedgeedge funds, leverage, financial crisis, newborn funds, survival

JEL Classification: TBA

The Catalytic Effect of Internationalization on Innovation

Ching-Hsing Chang, Ching Hung Chang, Pi-Kun Hsu and Sheng-Yung Yang

This paper examines how internationalization spurs corporate innovation. Internationalization heightens the competitive environment of firms, while increasing financial flexibility. The increased competition reduces agency problems, and motivates innovation projects which are supported by improved financial flexibility. We obtain robust evidence with the difference-in-differences and instrumental variable approaches. The passage of antitakeover laws and the 1989 Loma Prieta earthquake are treated as exogenous variations to corporate governance; shocks on firm capital supply measured by mutual fund redemptions are also considered. A less positive finding is that internationalization motivates firms to focus on the appropriability of innovation rather than on basic research.

Keywords: : internationalization; competition; financial flexibility; innovation; technological appropriability

JEL Classification: F23, F61, G30, G34, O31

Is finance a veil? Lead-and-lag relationship between financial and business cycles: the case of China

Chung-Hua Shen ,Jun-Guo Shi,Meng-Wen Wu

This study examines the lead-and-lag relationship between financial cycles (FCs) and business cycles (BCs) by using Chinese provincial data. We construct FCs of the financial sector on the basis of three financial variables: credit-to-GDP ratios, house prices, and equity prices. We use the panel dynamic logit model to investigate the lead-and-lag effect between two sectors. Results show that each province has its own unique FCs and BCs. Hence, financial policies should be different in dissimilar provinces. Next, we find that FCs lead BCs and not vice versa. Furthermore, the leading effect is stronger in rich provinces than in poor areas.

Keywords: : financial cycle; business cycle; panel dynamic logit model; credit-to-GDP ratio; direct financing ratio

JEL Classification: E32, E44, G21, P34

Local Official Turnover, Ownership, and Firm Cash Holdings: Insights from an Emerging Market

Xiaoran Ni

Using a hand-collected dataset of city-level local official turnover in China, I find that average cash holdings of listed firms decrease significantly upon turnover of city heads, and this effect concentrates in privately owned enterprises. Such effects are more pronounced in firms located in cities with lower government quality. I also find that local official turnover leads to decreases in equity issuance for privately owned enterprises but not for state-owned enterprises, which largely explains our primary findings. Overall, this paper reveals that the cash policy of privately owned enterprises is sensitive to local official turnover in an emerging market.

Keywords: :local official turnover; cash holdings; ownership structure; emerging market

JEL Classification: G18, G32, G38

Employee Treatment and Its Implications for Bondholders

Tsung-Kang Chen, Yan-Shing Chen, and Hsiao-Lin Yang

We examine the various channels through which the quality of a firm’s employee relations can affect the welfare of bondholders. Our evidence suggests that better employee treatment benefits bondholders and leads to a lower bond spread by enhancing a firm’s productivity, and by reducing the likelihood of product failures, labor strife, and employee turnover. However, a higher level of satisfaction is more costly for bondholders in firms facing more severe financial constraints or agency problems.

Keywords: : Employee treatment, bond yield spreads, cost of debt

JEL Classification: G12, J53

Median Momentum

Pin-Huang Chou & Tsung-Yu Chen

The median is a better measure to summarize a sample's central tendency in the pres- ence of extreme observations. We propose an alternative momentum strategy formed by buying (shorting) stocks with high (low) average median returns over a formation period of 3 to 12 months. The median momentum strategy outperforms the traditional price momentum strategy for all holding periods from one month to ve years, with no long-term reversal. This same return pattern is observed for all G7 countries. Further analysis indicates that median momentum pro tability is an underreaction-only phe- nomenon and shows behavioral patterns related to short-sale restrictions and investor sentiment.

Keywords: Momentum, Regret, Cognitive dissonance, Short-sale restrictions, Investor sentiment. 

JEL Classification: G12, G14.

European Financial Management, VOL 25:5, November 2019

Getting it Right or Getting it Cursed: Auction Prices in a Residential Real Estate Bubble

Clare Branigan, Cal Muckley, and Paul Ryan

This is the first study to test for a winner’s curse in a bubble market. Our hand-collected sample comprises the sequence of bids and the experience of the winning bidder at Irish residential real estate auctions, prior to the collapse of the bubble. Portfolios of practitioner- and hedonic pricing model-selected self-similar properties provide benchmark property price estimates. We show neither real estate investors nor owner occupiers shade auction bids to avoid the winner’s curse and both raise bids in line with competition. Winning investor bidders pay more for properties, ride the wave of a property bubble and potentially exacerbate it.

Keywords: :Bubbles, Owner occupier, Professional investor, Residential real estate, winner’s curse

JEL Classification: G00, G01, G02, G10, R31

Managerial Optimism: New Observations on the Unifying Theory

James B. Heaton

Abstract:Managerial optimism theory is behavioral finance’s greatest achievement. It explains two prominent features of corporate financial behavior - over-investment and pecking order capital structure preferences - that otherwise require two different theories with mutually-incompatible assumptions about managerial loyalties to shareholdervalue maximization. After reviewing the development of managerial optimism as a unifying theory, I use a simple change-of-measure to transform risk-averse optimism to risk-neutral probabilities that can be pessimistic or optimistic depending on wealth changes. This unexplored feature has implications for, among other things, pay for performance when managers are excessively optimistic.

Keywords:Behavioral corporate finance, Managerial optimism, Agency cost theory, Asymmetric information theory, Pay for performance.

JEL Classification: TBA

Do culture, Sentiment and cognitive dissonance explain the “above suspicion” anomalies?

Ali Altanlara,Jiaqi Guob and Phil Holmesc

We investigate how cognitive dissonance arising from interactions between sentiment and culture affects momentum and post-earnings-announcement-drift (PEAD). We focus on differing views relating to change between Western and East Asian cultures. Building on Hong and Stein (1999) and recognising Westerners’ (Easterners’) belief in continuation (reversal), we propose cognitive dissonance arises in different circumstances and to differing degrees in the two cultures, resulting in it being a key driver of the anomalies. Results support our hypotheses, suggesting sentiment and culture interact to impact cognitive dissonance, explaining differences in the anomalies across countries evident in prior literature.

Keywords: Culture, Investor Sentiment, Cognitive Dissonance, Momentum, Post-Earnings-Announcement-Drift

JEL Classification: G14, G41, G4

Psychopathic Traits of Corporate Leadership as Predictors of Future Stock Returns

Ayman M.A. Omar, Tomasz Wisniewski, and Liafisu Sina Yekini

This paper examines whether it is possible to forecast one-year-ahead returns of individual companies based on the observed ‘psychopathic’ characteristics of their top management team. We find that language characteristic of psychopaths present in annual report narratives, questionable integrity, excessive risk-taking and failure to contribute to charitable undertakings tend to reduce future shareholder wealth. These findings imply that firms could benefit from incorporating psychological evaluation in their recruitment processes, especially when seeking to fill senior management posts. While the return predictability described in this paper supports the upper echelons perspective, it simultaneously challenges the notion of informationally efficient stock prices

Keywords: Corporate Psychopaths; Stock Market Returns; Shareholders’ Wealth; Behavioral Finance

JEL Classification: D22; G02; G12; G14; G34

The Effect of Stricter Capital Regulation on Banks' Risk-Taking: Theory and Evidence

Lundtofte and Caren Yinxia Nielsen

A simple portfolio choice model shows that, when a bank’s capital is constrained by regulation, regulatory cost (risk weightings) alters the risk and value calculations for the bank’s assets. In particular, we find that banks may respond to stricter regulation by increasing the share of high-risk assets. Our empirical results show that U.S. banks responded to the implementation of the stricter Basel II regulations by increasing the share of high-risk assets in the risky part of their portfolios

Keywords:Banks, asset risk, credit risk, portfolio choice, risk-based capital regulation

JEL Classification: G11,G18,G21,G28

Does Institutional Ownership Predict Mutual Fund Performance? An Examination of Undiscovered Holdings within 13(f) Reports

Xuhui (Nick) Pan Kainan Wang and Blerina Bela Zykaj

Abstract:We show that institutional ownership in equity mutual funds predicts fund performance. Our measure of institutional ownership in mutual funds is directly from institutions’ quarterly 13(f) filings so it provides a broader coverage of institutional investment in mutual funds than existing studies. Most institutions holding mutual funds are independent investment advisors and bank trusts who invest in mutual funds on behalf of their clients. Our results show that funds held by institutions perform better than funds not held by institutions for at least three years. Institutions’ informational advantage is the main driver of the outperformance of institution-held funds.

Keywords:institutional investors; 13(f) filings; mutual funds; mutual-fund performance

JEL Classification: G11, G23

The Impact of Board Gender Composition on Corporate Debt Maturity Structures

Yiwei Li and Xiuye Zhang

Abstract:This paper examines the effect of female directors on corporate debt maturity structures. We find that firms with a higher ratio of female directors tend to have a larger proportion of short-maturity debt. This effect is more pronounced with female independent directors and is insignificant with female inside directors. These findings remain robust under propensity score matching and instrumental variable approaches to address potential endogeneity concerns. Furthermore, we find that our results are driven primarily by firms with weak governance quality and low financial constraints. We also find that the effect does not differ between high- and low-leveraged firms, and there is a negative relation between female directors and likelihood of overinvestment. This evidence suggests that female directors view short-term debt as a monitoring device.


JEL Classification: TBA

Bail-In Rules and the Pricing of Italian Bank Bonds

Fabrizio Crespi, Emanuela Giacomini, and Danilo V. Mascia

Abstract:We analyze whether the introduction of the bail-in tool in January 2016 affected the pricing of Italian bank bonds. Using a unique dataset of 1,798 fixed-rate bonds issued during the period 2013–2016, we find an increase of the spread at issuance of bail-inable bonds compared to non-bail-inable bonds. This increase also depends on the intrinsic characteristics of each bank. Large institutions, banks with lower ratings, profitability, capitalization, and higher liquidity faced a higher cost of issuing bail-inable bonds. Overall, our results seem to support the hypothesis of an improved market discipline for the bank bonds primary market

Keywords:bail-in, bank bonds, cost of funding, too-big-to-fail.

JEL Classification: G12, G2, G21, G28.

Individual Risk Tolerance and Herding Behaviours in Financial Forecasts

Jeppe Christoffersen and Simone Staehr

Financial analysts tend to demonstrate herding behaviour, which sometimes compromises accuracy. A number of explanations spanning rational economic logic, cognitive biases, and social forces have been suggested. Relying on an experimental setting where participants forecast future earnings from a rich information set, we posit and obtain support for individual risk tolerance (or lack thereof) as an explanatory variable for herding behaviours. Specifically, less risk tolerant individuals forecast with less boldness and instead issue forecasts in agreement with the consensus forecast. The results are argued to be at least partially a product of cognitive biases and an intuitive reaction to uncertainty.

Keywords: Boldness; cognitive bias; intuition; news asymmetry; experiment

JEL Classification: G41