European Financial Management 2022 Archive

January 2022, VOL 28:1 March 2022, VoL 28:2 June 2022, VoL 28:3 September 2022, VoL 28:4 November 2022, VoL 28:5

European Financial Management, VOL 28:1, January 2022

Has European corporatism delivered? A survey with preliminary evidence

Shiva Rajgopal

I ask whether European firms' investments in stake- holder welfare come at the cost of lower shareholder value. Focusing on the largest 50 public firms in four European countries, I find a valuation discount in the Tobin's Q of continental European firms relative to matched US firms. The valuation discount is correlated with presence of large block holders in European firms but not with the poorer disclosure record of US firms on the environmental (E) and social (S) dimensions. In sum, poorer governance (G) in continental Europe appears to destroy more shareholder value than better E and S disclosure can add.

Keywords: ESG, Europe, shareholder, stakeholder, valuation.

JEL Classification:

M14, G23, G34.

Stock price synchronicity, cognitive biases, and momentum

Chen Chen,John A. Doukas.

The momentum anomaly is widely attributed to in- vestor cognitive biases, but the trigger of cognitive biases is largely unexplored. In this study, inspired by psychology studies linking cognitive biases to the noi- siness of information, we examine whether momentum returns are associated with high stock price synchro- nicity, a manifestation of noisy firm‐specific informa- tion. Our results demonstrate that momentum is more pronounced in the presence of high stock price syn- chronicity. This finding is robust to other explanations and firm characteristics. We also find that stock price synchronicity boosts the profitability of momentum by amplifying investor underreaction to new information.

Keywords: capital markets, cognitive biases, momentum, stock price synchronicity.

JEL Classification:

G10; G12; G14; G41.

Competitive pressure and firm investment efficiency: Evidence from corporate employment decisions.

Sabri Boubaker,Viet A. Dang,Syrine Sassi.

This study examines the link between product market competition and labour investment efficiency. We find that competitive pressure distorts the efficiency of corporate employment decisions by creating an un- derinvestment problem. This finding withstands a battery of robustness checks and remains unchanged after accounting for endogeneity concerns. Additional analysis shows that the relationship between product market competition and labour investment efficiency is stronger for firms facing higher competitive threats, greater financial constraints, higher information asymmetry and higher labour adjustment costs. Our results suggest that as competition increases bankruptcy risk, it leads managers to underinvest in labour to avoid incurring labour‐related costs.

Keywords: import tariffs, investment efficiency, labour investment, product market competition, risk exposure.

JEL Classification:

G31, G34, G38, M51.

Target insiders' preferences when trading before takeover announcements: Deal completion probability, premium and deal characteristics.

Jana P. Fidrmuc,Chunling Xia.

We contribute to the M&A literature by characterizing the information available to target insiders during the pre‐public takeover negotiations. We analyze insider trading in target firms in the US between 2005 and 2018. First, we show that signing confidentiality agreements is an important information threshold. Second, insiders have a good grasp of deal success. They increase their net purchases only in deals with higher completion probability. Third, insiders guess the final offer price well, but their trading strategies additionally reflect their knowledge of deal char- acteristics. They prefer bidder‐initiated, cash, pri- vately negotiated, and strategic deals. Insiders combine several sources of information.

Keywords: insider trading, mergers and acquisitions, target firms.

JEL Classification:

Optimal reinsurance and portfolio selection: Comparison between partial and complete information models.

Bong‐Gyu Jang,Kyeong Tae Kim,Hyun‐Tak Lee.

We consider partial and complete information models to investigate how partial information has a unique quality over complete information for insurers. We find that optimal reinsurance and investment strategies for the partially informed insurer depend on prior beliefs, whereas those for the completely informed insurer do not. In addition, information quality can affect insurer behaviour, mainly through the relative difference be- tween risk‐adjusted market premium and risk‐adjusted insurance premium projected on the financial markets. Numerical results indicate that partial information increases the conservativeness of insurer strategies.

Keywords: certainty equivalent wealth, information quality, partial information, risk‐adjusted premium.

JEL Classification:

C61; G11; G22.

The evolution of financial constraints.

Demetris Christodoulou,Shawn Ho,Artem Prokhorov.

We demonstrate that the severity of financial con- straints has declined over time for two reasons: (i) improved access to external funds as evidenced by a decreased reliance on internal cash flows, and (ii) an inward shifting investment frontier with reduced in- vestment opportunities. The decline in financial con- straints coincides with the documented diminishing sensitivity of investment to cash flows, yet we show that cash flows remain a determining factor in helping constrained firms overcome restricted access to ex- ternal capital. There is a flight‐to‐quality during eco- nomic shocks, where the adverse effects following periods of tightened credit are particularly pronounced for smaller firms, with larger firms appearing largely unaffected.

Keywords: capital investment, financial constraints, investment‐cash flow sensitivity, stochastic frontier analysis.

JEL Classification:

G01, G31, G32.

Structural transmissions among investor attention, stock market volatility and trading.

Helmut Herwartz,Fang Xu.

We employ data‐based approaches to identify the transmissions of structural shocks among investor at- tention measured by Google search queries, realised volatilities and trading volumes in the United States, the United Kingdom and the German stock market. The two identification approaches adopted for the structural vector autoregressive analysis are based on independent component analysis and the informa- tional content of disproportional variance changes. Our results show robust evidence that investors' attention affects both volatilities and trading volumes con- temporaneously, whereas the latter two variables lack immediate impacts on investors' attention. Some movements in investors' attention can be traced back to market sentiment.

Keywords:realised volatility, search engine data, structural VAR.

JEL Classification:

G10, G14.

A game of thrones—Dynamics of internal CEO succession and outcome.

Brian Blank,Brandy Hadley,Kristina Minnick,Mia L. Rivolta.

We examine the implications of chief executive offi- cer (CEO) succession methods for firm outcomes and executive incentives. Focusing on internal CEO suc- cessions, we find that the largest U.S. firms typically rely on two types of succession methods, namely, heir apparent and horse race successions. Although heir apparent and horse race CEO candidates have similar qualifications, the consequences of these two succes- sion methods differ significantly. We find that horse race successions induce conflict and are detrimental to firm performance but not necessarily to the newly appointed CEOs. Our findings suggest succession method influences firm performance, executive in- centives and CEO labour markets.

Keywords:board of directors, CEO turnover, executive compensation, succession.

JEL Classification:

G30, J33, M52.

European Financial Management, VOL 28:2, March 2022

Are Enhanced Index Funds Enhanced?

Edwin J. Elton, Martin J. Gruber, Andre de Souza.

One of the major trends in the mutual fund industry is the rising importance of passive investing. One of the responses of the investment community to this challenge has been the creation of enhanced return index funds. In this paper, we examine the performance of enhanced index funds and find that they outperform index funds when we analyze both pre-expense performance (management ability) and post-expense performance (investor returns). However, when we use any of several criteria that have been proposed for picking the best fund from among those following some index, index funds outperform enhanced index funds.

Keywords: enhanced index funds, index funds.

JEL Classification:


Does corruption distance affect cross-border acquisitions? Different tales from developed and emerging markets

Chinmoy Ghosh,P.C. Narayan,R. Shyaam Prasadh,M. Thenmozhi.

Using a large sample of cross-border deals, we find an inverted U-shaped relationship between corruption distance and cross-border acquisition (CBA) volume. CBAs involving higher corruption distance show negative post-acquisition performance. However, MNEs with larger equity stake deliver superior gains. We find that the ownership strategy varies with levels of corruption distance. MNEs mitigate adverse selection and moral hazard problems by acquiring targets from a related industry and targets with a foothold. We demonstrate that CBA activity and ownership strategy vary between developed and emerging economies, and both ‘level’ and ‘direction’ of corruption distance are important in its effect on CBAs.

Keywords: Cross border acquisitions; Corruption distance; Ownership structure; Emerging markets; post-acquisition performance.

JEL Classification:

G34, D73, F23, L25.

Manacled short sellers and return premium: New evidence.

Xiao-Ming Li.

Investigating the short-selling regulation of the Hong Kong market, we document that shortable stocks, on average, earn significantly higher returns than non-shortable stocks. However, loadings of stocks/portfolios on the shortable minus non-shortable misvaluation factor SMN predict a significant negative return premium in the cross-section of returns. We measure SMN by applying both value- and return-weighted methods with various time lags. We propose a behavioural model to rationalize our results. The model shows that, if investors are overconfident regarding short-selling regulatory factor signals, it is possible to detect a positive average/abnormal return but a negative future return premium on SMN.

Keywords: Short-sale regulation, overconfidence bias, mispricing, Hong Kong market.

JEL Classification:

G02; G10; G12; G28.

PhD CEOs and firm performance.

Andrew Urquhart and Hanxiong Zhang.

This paper investigates the relationship between the education of a CEO and firm performance and provides robust evidence that firms led by CEOs with PhDs outperform their peers. We find that CEOs with PhDs increase firm performance by 3.03% while CEOs with a PhD from a highly ranked university increase firm performance by 4.65%. Our results are robust to endogenous CEO selection, transition firms, alternative rankings, unobserved firm characteristics and the network of the CEO. We also show that the increase in firm performance is due to a tighter control of costs and superior cash flow management.

Keywords: CEO characteristics, Education, PhD, firm performance.

JEL Classification:

G00; G03.

Unconventional monetary policy and international equity capital flows to emerging markets.

Christoforos K. Andreou,Nebojsa Dimic,Vanja Piljak,Andreas Savvides.

This paper examines the relationship between monetary policies pursued by three major central banks (U.S. Federal Reserve, European Central Bank and Bank of Japan) and net equity capital flows to emerging markets (EMs) by global investment funds. We focus on two aspects of central bank policy: The growth of central bank assets and the surprise element of asset growth. We find, first, positive, economically large and statistically significant spillovers from the U.S. Federal Reserve asset growth to EM equity inflows following the adoption of unconventional monetary policies. Second, U.S. Federal Reserve and (to a lesser extent) European Central Bank asset growth surprises are negatively related to EM capital flows.

Keywords: emerging markets, international capital flows, unconventionalmonetary policy.

JEL Classification:

E44, F30, G15.

Net asset value discounts and premiums in the maritime shipping industry.

Andreas Andrikopoulos,Anna Merika,Christos Sigalas.

This paper examines net asset value (NAV) discounts and premiums in the setting of the maritime shipping industry. We employ a qualitative study with equity analysts as well as a quantitative study with a unique panel data, to explore and empirically investigate, respectively, the reasons underpinning NAV discounts and premiums. Our findings suggest that deviations of market capitalisation from NAV are associated with firm-specific factors, such as public maritime shipping companies’ capital structure, stock liquidity, fleet acquisition cost, operating performance, institutional ownership, cost of capital, corporate governance, dividend policy, and related party transactions.

Keywords: Net Asset Value, Net Asset Value discount, Net Asset Value premium, Equity valuation, Public maritime shipping companies.

JEL Classification:

G12, G14, G32.

Further evidence on calendar anomalies.

Yuan-Teng Hsu,Kees G. Koedijk,Hung-Chun Liu,Jying-Nan Wang.

This study aims to investigate the day‐of‐the‐week effect of cross‐market leveraged exchange‐tradedfunds (LETFs) in the Taiwanese stock market. We findthat Wednesday's overnight returns are significantlypositive for bull 2X LETFs tracking major stock indicesof the Chinese market, whereas no such an effect isfound for ETFs tracking local or other internationalstock markets. The“T+1”trading rule and a laggedMonday effect potentially explain this anomaly. Fi-nally, simulation analysis of various simple tradingrules further shows that there exist exploitable profitopportunities in cross-market bull 2X LETF markets.

Keywords:“T+1”trading rule, cross‐market ETF, day‐of‐the‐week effect,LETF, leveraged ETF.

JEL Classification:

C14; C22; G14; G15.

The determinants of banks' AT1 CoCo spreads.

Axel Kind,Philippe Oster,Franziska J. Peter.

We conduct a comprehensive pricing study of Additional Tier 1 (AT1) Contingent Convertible (CoCo) bonds issued by Eurozone banks. By accounting for an extensive set of pricing determinants related to the regulatory framework, the security design, and key market variables, we show that the regulatory concept of the Maximum Distributable Amount (MDA) introduced in 2016 has a significant and economically meaningful impact on CoCo spreads. Furthermore, we examine whether the market stress induced by the COVID-19 pandemic influences the determinants of CoCo spreads. Our results show that the pricing factors remain stable throughout tranquil and volatile periods.

Keywords: Additional Tier 1 (AT1), Contingent Convertible (CoCo), COVID-19 Pandemic, Maximum Distributable Amount (MDA), Systemically Important Banks (SIB), Point of Non-Viability (PoNV), Security Design, Regulation.

JEL Classification:

G12, G13, G21, G28.

European Financial Management, VOL 28:3, June 2022

Misconduct risks, legal enforcement and venture capital networks.

Douglas J. Cumming, Ali Mohammadi, Simona Zambelli

This study investigates the differing role of enforcement on the formation of venture capital (VC) syndication networks. We conjecture that public enforcement, with strong investigative powers against any syndicate member, discourages the formation of denser syndication networks due to misconduct risk by a member. By contrast, private enforcement, with strong disclosure and liability standards, enables denser syndication networks, through clear liability rules, standardized securities contracts and cost-sharing amongst syndicate members. Our VC data from 31 countries show a negative impact of public enforcement on VC networks and partially support the positive impact of private enforcement depending on cultural conditions.

Keywords: Networks, Venture Capital, Syndication, Legal Enforcement, Culture.

JEL Classification:

G24, G32.

Is money really left on the table? The role of regular investors in IPO pricing.

Manuela Geranio, Camilla Mazzoli, Fabrizio Palmucci.

We study how ongoing relationships between lead underwriters and institutional investors affect initial public offering (IPO) pricing. By introducing a new approach, we find that stronger relationships reduce the partial adjustment of the offer price, leaving ‘excess underpricing’ that favors regular investors, especially in hot IPOs, while generating an agency cost for issuers. At the same time, stronger relationships lead to higher offer prices, since they reduce information asymmetries and uncertainty in the primary market. This ‘excess price adjustment’ creates value for issuers. Taken together, these two apparently contradictory results reveal a win-win outcome for issuers and regular investors.

Keywords: initial public offerings, information asymmetries, regularinvestors, repeated interactions, underpricing.

JEL Classification:

G23, G24, G31.

Does idiosyncratic volatility proxy for a missing risk factor? Evidence using portfolios as test assets.

David Gempesaw, Haimanot Kassa, Blerina Bela Zykaj.

One of the main explanations for the idiosyncratic volatility (IVOL) puzzle (i.e., the negative relation between lagged IVOL and returns) is a missing risk factor. We show analytically that if IVOL proxies for a missing risk factor, then the negative relation between IVOL and returns should persist at the portfolio level. Empirically, we find that the IVOL puzzle disappears when we use well-diversified portfolios as test assets. The IVOL puzzle also weakens after controlling for additional risk factors. Overall, our results suggest that both diversifiable (i.e., true idiosyncratic risk) and non-diversifiable risk play a role in explaining the IVOL puzzle.

Keywords: Idiosyncratic volatility, IVOL puzzle, missing risk factor.

JEL Classification:

G10, G11, and G12.

Leading indicators for US house prices: New evidence and implications for EU financial risk managers.

Miguel Rodriguez Gonzalez, Tobias Basse, Danilo Saft, Frederik Kunze.

This study draws on machine learning as a means tocausal inference for econometric investigation. Weutilize the concept of transfer entropy to examine therelationship between the US National Association ofHome Builders Index and the S&P CoreLogic Case‐Shiller 20 City Composite Home Price Index (SPCS20).The empirical evidence implies that the survey datacan help to predict US house prices. This finding ex-tends the results of Granger causality tests performedby Rodriguez Gonzalez et al. in 2018 using a newmachine learning approach that methodologically dif-fers from traditional methods in empirical financialresearch.

Keywords: financial risk management, leading indicators, machinelearning, transfer entropy, US house prices.

JEL Classification:

C58, G01, G11, R30.

Machine learning in finance: A topic modeling approach

Saqib Aziz, Michael Dowling, Helmi Hammami, Anke Piepenbrink.

We identify the core topics of research applying machine learning to finance. We use a probabilistic topic modeling approach to make sense of this diverse body of research spanning across multiple disciplines. Through a Latent Dirichlet Allocation topic modeling technique we extract 15 coherent research topics that are the focus of 5,942 academic studies from 1990 to 2020. We find that these topics can be grouped into four categories: price forecasting techniques, financial markets analysis, risk forecasting, and financial perspectives. We first describe and structure these topics, and then further show how the topic focus has evolved over the last three decades. A notable trend we find is the emergence of text-based machine learning, for example, for sentiment analysis, in recent years. Our study thus provides a structured topography for finance researchers seeking to integrate machine learning research approaches in their exploration of finance phenomena. We also showcase the benefits to finance researchers of the method of probabilistic modeling of topics for deep comprehension of a body of literature.

Keywords: Topic modeling, machine learning, textual analysis, finance, Latent Dirichlet Allocation.

JEL Classification:

G00, C45.

Flotation costs of seasoned equity offerings: Does corporate social responsibility matter?

Zhe Li, Ping Wang.

This paper investigates the effect of corporate socialresponsibility (CSR) on flotation costs in seasonedequity offerings (SEOs). On the basis of an interna-tional sample covering 38 countries during the period2002–2018, we find that CSR performance is negativelyassociated with SEO flotation costs and this negativeimpact is mainly attributable to issuers' engagement inCSR, particularly in environmental and social activ-ities. We further reveal that the CSR strategies of SEOissuers are successful in reducing market‐based costs aswell. Overall, this paper offers critical insights for un-derstanding the role of stakeholder‐oriented practicesin adding value to shareholders through equity offerings.

Keywords: corporate social responsibility, flotation costs, market‐basedcosts, seasoned equity offerings

JEL Classification:

D82, G15, G24, M14.

Me, myself and I: CEO narcissism and selective hedging.

Emanuele Bajo, Håkan Jankensgård, Nicoletta Marinelli.

In this paper, we test the hypothesis that CEO narcis-sism influences firms’hedging behaviour. Our em-pirical evidence, based on hand‐collected data onderivative positions in the U.S. oil and gas industry,suggests that firms with a narcissistic CEO hedge moreselectively. Furthermore, we find that these firms re-duce selective hedging comparatively more following asharp price collapse that sent the industry into a stateof distress. This result is in line with the‘narcissisticparadox’: While scoring high on self‐esteem andgrandiosity in the normal case, such individuals arealso inherently fragile and liable to crumble whenfaced with adversity.

Keywords:derivatives, narcissism, risk management, selective hedging.

JEL Classification:

G30, G32.

Investment transparency and the disposition effect.

Jo Danbolt, Arman Eshraghi, Marcel Lukas.

The disposition effect is lower in a trading environment with salient information on current holdings. Using proprietary data from a European fintech platform for social trading, we analyze variation in trading behavior within and between private and publicly-visible portfolios. The disposition effect diminishes by about 35% when trades and holdings become public. We find the level of transparency and the way financial information is illustrated can influence trading decisions. Our results suggests that requiring greater transparency from portfolio managers can reduce trading bias.

Keywords: Disposition Effect, Transparency, Social Trading, Fund Management.

JEL Classification:

G11, G41.

European Financial Management, VOL 28:4, September 2022

Seven Myths of ESG.

David F. Larcker, Brian Tayan, Edward M. Watts.

Environmental, social, and governance (ESG) considerations have dominated the discussion of corporate purpose in recent years. We examine commonly accepted notions about ESG that are foundational to the discussion but receive little critical analysis. We conclude that decisions about ESG would improve if they were based on empirical evidence and theoretical research in this field.

Keywords: ESG, corporate purpose, ratings, disclosure, greenwashing.

JEL Classification:

G00; M00; M14.

Euro area banks' interest rate risk exposure tolevel, slope and curvature swingsin the yield curve.

Daniel Foos, Eva Lütkebohmert, Mariia Markovych, Kamil Pliszka.

We investigate the interest rate risk exposures of euroarea banks during times of crises and very low interestrates. First, we assess sensitivities of banks' stock prices tochanges in the level, slope and curvature of the yieldcurve using the Bayesian DCC M‐GARCH model. Ourfindings reveal that stock price sensitivities change overtime and that, on average, banks benefit from increases inthe level, slope and curvature of the yield curve. Second,we observe that banks with higher capital ratios, morecustomer lending and less deposit financing are particu-larly sensitive to interest rate movements.

Keywords: bank stock returns, Bayesian DCC M‐GARCH model, interest raterisk, maturity transformation, term structure of interest rates.

JEL Classification:

C11, C51, C55.

The Bias of Growth Opportunity.

Cynthia Miao Gong, Xindan Li, Di Luo and Huainan Zhao.

The bias of growth opportunity (BGO), measured as the difference between market and fundamental values of a firm’s growth opportunity, has an ability to predict future stock returns. In the portfolio sort, downward-biased BGO firms earn higher returns than upward-biased BGO firms, which is unexplained by the common asset pricing models. Cross-sectional regression results also confirm BGO’s power in predicting stock returns. To explain the anomaly, we show that the BGO premium is more pronounced when investor sentiment is high or when limits-to-arbitrage is severe, which suggests that the BGO is more likely to capture behavioral biases than systematic risk.

Keywords: Bias of growth opportunity; Behavioral Finance; Asset Pricing; Anomaly.

JEL Classification:

G12; G14; G30.

Enhanced indexing and selectivity theory.

Andrei Bolshakov, Ludwig B.Chincarini and Christopher Lewis.

Investment managers that believe to have skill must choose some fraction of stocks in a benchmark to hold. Recent theory predicts that the optimal percentage of holdings for a manager with skill is between 50 and 80 percent of the benchmark. This theory requires a number of assumptions. Using simulations, we relax some of the assumptions to examine if the theory still holds. We find that, for the most part, the theory holds when the assumptions are relaxed. We also extend the analysis from a one-period horizon to a multi-period horizon using the actual returns of stocks in the S&P 500.

Keywords: enhanced indexing, information ratio, portfolio management, active management, simulations.

JEL Classification:

G0, G13.

Discounting and the Market Valuation of Defined Benefit Pensions.

Francis Breedon and Luca Larcher.

We investigate how defned benefit pension schemes of FTSE frms are valued by the equity market, focusing on how future liabilities are discounted (since UK data allows us to estimate the duration of pension liabilities fairly accurately). Our primary sample of FTSE 100 constituents includes mostly large DB sponsors with mature schemes, primarily closed to new entrants but still active for current employees. We found that equity market valuation of pension liabilities is consistent with discounting without allowing for credit risk, thus incorporating a valuation closer to their settlement value. This differs from the approach used in published accounts for which IAS 19 (and SFAS No. 158, its US equivalent) allows for discounting with a corporate bond yield. The difference is significant, as credit risk free discounting would decrease the reported value of FTSE 100 firms by about 7%.

Keywords: Defined benefit pensions, IAS 19, Valuation, UK companies.

JEL Classification:

M41, G32.

Automated investment management: Comparing the design and performance of international robo-managers.

Nils Helms, Reinhold Holscher and Matthias Nelde.

Robo-managers offer automated asset management, their overall performance, however, is highly debated. We analyze 15 Robo-managers from Germany, USA and the UK by conducting a comprehensive qualitative and quantitative study. The qualitative comparison shows considerable differences between the various Robo-managers; not only across but also within countries. The quantitative evaluation utilizes different measures to evaluate the performance of the Robo-manager sample. Our results indicate that each country has one particularly favorable Robo-manager. Furthermore, it was found that the costs and the characteristics of the applied rebalancing measures have only a small effect on the performance.

Keywords: Robo-advisory, Robo-manager, Digitalization, Automated asset management, Performance, qualitative and quantitative study.

JEL Classification:


The Banking Union and evidence on bail-ins and bailouts.

Ricardo Cabral.

This article analyzes the Eurozone's banking sector regulatory framework, known as the Banking Union. It shows how distressed banks' non-compliance with supervisory, state aid, or central bank lending policies can trigger the application of resolution or liquidation measures. Further, it provides new evidence on large bank distress episodes in the European Union and the United States, suggesting that recapitalization is a more cost-effective policy instrument than resolution or liquidation. Finally, it argues that the Banking Union lacks an appropriate recapitalization instrument for borderline distressed banks and that a more nuanced and structured stance on regulatory forbearance is probably warranted.

Keywords:Resolution, liquidation, financial stability, regulatory forbearance, Banking Union.

JEL Classification:

E58, G00, G21, G28.

Hedge inflation risk of specific purpose guarantee funds.

Bingzheng Chen,Ze Chen,Yi Hu,Hai Zhang.

Specific purpose guarantee funds (SPGFs) such as pension guarantee funds are popular among investors with both specific investment purpose and guaranteed return requirement, but receive little academic attention. We propose a practical purpose-oriented constant proportion portfolio insurance (PO-CPPI) strategy that optimally allocates its assets into a risk-free fund (floor) and a purpose-related portfolio (cushion) to maximize prospect theory investors’ utility with consideration of their purpose-related inflation risk. Our closed-form solution of optimal PO-CPPI allocation derived in the continuous time case and Monte-Carlo simulations in the discrete-time and dynamic cases prove the superiority of PO-CPPI over general portfolio insurance strategies.

Keywords: CPPI; Portfolio insurance; Prospect theory; Specific purpose guarantee funds.

JEL Classification:

G11 G22.

European Financial Management, VOL 28:5, November 2022

Pricing art and the art of pricing: On returns and risk in art auction markets

Yuexin Li, Marshall Xiaoyin Ma, Luc Renneboog

We study price determinants and investment perfor-mance of art using a vast sample of transactionsworldwide over the past 60 years. We focus on paint-ings and drawings which have appreciated at a real(nominal) annual return of 2.49% (6.24%). Higher artreturns are reached for paintings at the high end of theprice distribution, oil paintings, more recent artmovements and transactions by reputable auctionhouses. The risk–return trade‐off of paintings under-performs that of other passion investments. Paintings'Sharpe ratios are below those of stocks, bonds and goldbut outperform those of commodities and real estate.Investments in paintings enter the optimal investmentportfolio.

Keywords: art investment, auction, cultural economics, hedonic pricingmodel, repeat sales model.

JEL Classification:

D44, G20, G11, Z11.

Systemic risk and centrality: The role of interactions

Hossein Asgharian, Dominika Krygier, Anders Vilhelmsson

We analyze to what extent the contribution of banksto systemic risk depends on their centrality in fi-nancial networks. We find that centrality is an im-portant determinant of systemic risk, but notprimarily by its direct effect. Its main influence is tomake other risk measures, such as probability ofdefault, more important for highly connected banks.Neglecting the indirect effect of centrality may se-verely underestimate or overestimate the systemicrisk of banks. We also show that, even though sizeand centrality are related, the inclusion of centralityprovides valuable information when assessing thesystemic importance of banks.

Keywords: CoVaR, loan syndication, network centrality, systemic risk.

JEL Classification:

G21, G18.

Dynamic optimal restructuring policies under debt renegotiation with positive externalities

Yingxian Tan, Pengfei Luo, Jinqiang Yang.

This paper develops a debt renegotiation model with positive externalities using the Nash bargaining game and explores dynamic optimal downward debt restructuring policies in times of financial distress. A novel feature of our model is its positive externalities, which imply that the liquidation threat offered by shareholders for renegotiation does not bring about any losses for both creditors and shareholders, and that both parties always benefit from debt renegotiation. We derive closed-form expressions for the optimal restructuring policies. Moreover, we provide theoretical support for the advantages of debt renegotiation with positive externalities since it not only increases firm value but also dramatically alleviates and even eliminates inefficiency arising from asset substitution. In addition, our model could explain the violation of the absolute priority rule for firms in financial distress. Finally, we find that debt renegotiation is facilitate among firms with relatively low risk and a high leverage ratio, as documented by empirical evidence.

Keywords: Debt renegotiation, Positive externalities, Dynamic capital structure, Asset substitution.

JEL Classification:

G13, G31, G32.

Settling down: T+2 settlement cycle and liquidity

Todd Griffith, Ahmed Baig, Stephen Breeze, Justin Cox.

We examine the effects of a shortened settlement cycle on liquidity. Our difference-in-difference results show that securities listed on U.S. stock exchanges become more liquid, relative to similarly matched securities listed on the London Stock Exchange, after the standard settlement cycle in the U.S. was reduced from T+3 to T+2. These results hold across various low- and high-frequency measures of liquidity and empirical model specifications. Furthermore, we find that securities that are more difficult-to-borrow experience the greatest gains in liquidity. Our findings might provide insights to regulators and exchange officials considering the adoption of a shortened settlement cycle.

Keywords: Trade settlement; liquidity; borrowing constraints; failures-to-deliver.

JEL Classification:

D47, G10, G14, G20.

Investing for retirement: Terminal wealth constraints or a desired wealth target?

Catherine Donnelly, Gaurav Khemka, William Lim.

We investigate how well different investment stra-tegies can give pre‐retirees more certainty abouttheir income in retirement, whilst allowing them tobenefit from taking investment risk. Under an ex-pected utility‐maximizing framework, we find that aloss aversion utility function gives a high degree ofcertainty about its desired wealth target and is ro-bust to different market models. Imposing terminalwealth constraints does not improve the certainty ofachieving the desired target enough to counter-balance the increased chance of obtaining a lowerincome. The power utility function is not robust todifferent market models and becomes too risk‐averse with wealth constraints.

Keywords: asset allocation, constrained optimization, loss aversion utility,numerical dynamic programming, retirement outcomes.

JEL Classification:

G11, G22, G51.

ETF ownership and corporate cash holdings

Izidin El Kalak, Onur K. Tosun.

Do exchange‐traded funds (ETFs) influence corpo-rate cash holding decisions? Consistent with reducedmanagerial learning from the stock market and in-creased uncertainty due to higher ETF ownership,we show that firms included in ETF baskets havehigher cash holdings as a precautionary response.We address endogeneity concerns through differentnatural experiments, namely, the reconstitution ofthe Russell 1000/2000 index and BlackRock's acqui-sition of iShares. We identify changes in revenue,external financing, share repurchases and networking capital as potential channels through whichcash holdings increase due to higher ETF ownership,with cash holdings increases having a positive im-pact on firm value.

Keywords: cash holdings, cash value, exchange traded funds, manageriallearning, share price informativeness.

JEL Classification:

G14, G23, G32.

SME investment and financing under asymmetric information

Yao Wang, Hai Zhang, Zhiming Zhao.

We investigate the investment timing and financing decisions of financially constrained small and medium‐sized enterprises (SMEs) in a real‐option setting with asymmetric information. ‘Bad’ firms can sell over‐priced securities by mimicking in a pooling equilibrium. However, ‘good’ firms can se- parate from bad firms by imposing an adverse se- lection cost for mimicry only when the benefit of being recognized as the ‘good’ type outweighs the investment distortion costs. Further, asymmetric information induces good firms to accelerate in- vestment, leading to investment distortion and higher guarantee costs. Equity‐for‐guarantee swap not only mitigates SMEs' financing constraints but also reduces the investment and finance distortions.

Keywords:asymmetric information, equity‐for‐guarantee swap, least‐cost equilibrium, real option, SME financing.

JEL Classification:

G11, G14, G32.

Married CEOs and stock price crash risk

Jeong-Bon Kim, Shushu Liao, Yangke Liu.

This study examines whether marriage, as a social con- struct and cultural norm, can affect firm‐level stock price crash risk. We find that firms managed by married CEOs are associated with lower future stock price crash risk, after controlling for a set of firm characteristics and CEO traits. We document that CEO marriage reduces crash risk by curbing bad news hoarding and formation activities. Moreover, the attenuating impact of CEO marriage on crash risk is more pronounced among firms with weaker corporate governance and those run by less prominent, higher‐delta and lower‐paid CEOs.

Keywords: bad news hoarding, CEO, compensation, corporate governance, crash risk, marriage.

JEL Classification:

G12, G30, M52, M12.

Whose speeches impact European markets: ECB's or the national central banks'?

Abhinav Anand, Sankarshan Basu, Jalaj Pathak, Ashok Thampy.

We quantify the tone from the speeches of the Eur- opean Central Bank (ECB) as well as that from the national central banks of six leading European nations and analyze its role in explaining the returns of their respective stock market indices. Using recent innovations in financial text analysis, we find evi- dence that except for France, all nations' stock indices are significantly associated with the tone of speeches delivered by either the national banks or the ECB (or both). For France, the national stock index vola- tility is found to be associated with its national central bank speech tone.

Keywords: central bank communication, central bank speech, European Central Bank, financial text analysis, tone analysis.

JEL Classification:

G14, G18, G28, G41.

Law enforcement spillover effects in the financial sector

Shivam Agarwal, Cal B. Muckley.

Recipient firms but also comparable peer firms exhibit a sizeable negative capital market reaction to United Kingdom's regulatory enforcement actions. This result is invariant to the identification of peer firms as belonging to the same industry classification or as having com- parable propensity scores to attract a sanction. Indis- criminate regulatory contagion, however, is ruled out. As per expectation, enforcement actions which pierce the ‘corporate veil’, that is, target an individual within a firm, are related to no significant firm‐level market re- actions. These findings, in the financial sector, indicate that sanctions are associated with a material spillover effect consistent with informed regulatory contagion.

Keywords: abnormal stock returns, enforcement actions, peer firm effects, regulatory risk.

JEL Classification:

G21, K42.