THE EFFECT OF RATE CASES ON PUBLIC UTILITY STOCK RETURNS

Public utility rate cases are economic events because they affect the intrinsic value of the utility. This paper examines the effect of rate cases on public utility stock returns. “Average” rate cases do not appear to affect the utilities' value, but “above-average” and “below-average” settlements cause positive or negative adjustments, respectively.     

Accounting information,disclosure, and expected utility: Do investors really abhor uncertainty?

Investors are said to “abhor uncertainty,” but if there were no uncertainty they could earn only the risk‐free rate. A fundamental result in the analytical accounting literature shows that investors buying into a CARA‐normal CAPM market pay lower asset prices, gain higher ex‐ante expected returns, and obtain higher expected utility, when the market payoff has higher variance. New investors obtain similar “welfare” gains from risk under a log/power utility CAPM. These results do not imply that investors “abhor information.” To realize investors' ex‐ante expectations, the subjective probability distributions representing market expectations must be accurate. Greater payoff risk can add to investors' expected utility, but higher ex‐post(realized) utility comes from better information and more accurate ex‐ante expectations. An important implication for accounting is that greater disclosure can have the simultaneous effects of (i) exposing more fully or perceptibly firms' payoff uncertainty, thereby increasing new investors' expected utility, and (ii) improving market estimates of firms' payoff parameters (means, variances, covariances), thereby giving investors a better chance of realizing their expectations. Paradoxically, better information can be valuable to new investors by exposing more fully and more accurately the risk in firms' business operations and results–new investors maximizing expected utility want both more risk and better information.     

Electric utility deregulation: Stranded costs vs. stranded benefits

This study re-examines the electric utility market value-book value relation in light of the changing regulatory climate. The change in the market value-book value relation is examined by comparing the market-to-book ratio in the post-regulatory period to the regulatory period. Additionally, this paper compares the stock market’s valuation of electric utility stranded costs (above market costs) to stranded benefits (below market costs). This paper demonstrates that electric utility market value and book value are no longer aligned. Additionally, this paper extends the research on deregulatory effects by documenting a differential market response to estimated stranded costs versus stranded benefits.     

Shadow Banking,Risk Transfer,and Financial Stability

Shadow banking is the process by which banks raise funds from and transfer risks to entities outside the traditional commercial banking system. Many observers blamed the sudden expansion in 2007 of U.S. sub‐prime mortgage market disruptions into a global financial crisis on a “liquidity run” that originated in the shadow banking system and spread to commercial banks. In response, national and international regulators have called for tighter and new regulations on shadow banking products and participants. Preferring the term “market‐based finance” to the term “shadow banking,” the authors explore the primary financial instruments and participants that comprise the shadow banking system. The authors review the 2007–2009 period and explain how runs on shadow banks resulted in a liquidity crisis that spilled over to commercial banks, but also emphasize that the economic purpose of shadow banking is to enable commercial banks to raise funds from and transfer risks to non‐bank institutions. In that sense, the shadow banking system is a shock absorber for risks that arise within the commercial banking system and are transferred to a more diverse pool of non‐bank capital instead of remaining concentrated among commercial banks. The article also reviews post‐crisis regulatory initiatives aimed at shadow banking and concludes that most such regulations could result in a less stable financial system to the extent that higher regulatory costs on shadow banks like insurance companies and asset managers could discourage them from participating in shadow banking. And the net effect of this regulation, by limiting the amount of market‐based capital available for non‐bank risk transfer, may well be to increase the concentrations of risk in the banking and overall financial system.     

IPO market timing. The evidence of the disposition effect among corporate managers

Until now, IPO market timing has been mostly associated with a varying number of IPOs in certain periods of “hot” and “cold” issue markets. We would like to offer a different perspective. We focus on a speed of the IPO process, after the decision to go public was actually made. Our hypothesis is that in “hot market” managers will tend to minimize the time necessary to go public in order to take advantage of high valuations as quickly as possible. On the contrary, if the firm is not ready with the IPO on time and in the meantime the market falls during the going-public process, managers will tend to delay the IPO hoping that the good market conditions will come back soon. We argue that such a behavior might be attributed to the disposition effect among firms' managers.We find a statistically significant negative correlation between the market return and the speed of the IPO process. The absolute correlation coefficient is higher when the market return is calculated 90 days prior to the Approval Date of the prospectus than when it is calculated 90 days after the Approval Date. Hence, a vast part of the market influence on the speed of the offering process has its origin at the time when offering is formally not possible yet. External factors occurring after the Approval Date seem to be less important than the managerial decision influenced by observation of the market situation prior to the Approval Date.We also find that for firms débuting faster than the median of our sample, the average market return in the period between the IPO date and the median is positive. On the other hand, in the group of slower firms, the average market return in the period between the median and the IPO date is negative. There is an analogy between firms – débuting too fast in bullish market and too slow in bearish market, and investors – selling winning stocks too quickly and keeping falling stocks for too long in their portfolios. Both managers and investors seem to be biased by the S-shape utility function, as predicted by the prospect theory of Kahnemann and Tversky (1979).     

The Effects of Monetary Policy “News” and “Surprises”

There is substantial agreement in the monetary policy literature over the effects of exogenous monetary policy shocks. The shocks that are investigated, however, almost exclusively represent unanticipated changes in policy, which surprise the private sector and which are typically found to have a delayed and sluggish effect on output. In this paper, we estimate a New Keynesian model that incorporates news about future policies to try to disentangle the anticipated and unanticipated components of policy shocks. The paper shows that the conventional estimates confound two distinct effects on output: an effect due to unanticipated or “surprise” shocks, which is smaller and more short‐lived than the response usually obtained in the literature, and a large, delayed, and persistent effect due to anticipated policy shocks or “news.” News shocks play a larger role in influencing the business cycle than unanticipated policy shocks, although the overall fraction of economic fluctuations that can be attributed to monetary policy remains limited.     

On Viable Diffusion Price Processes of the Market Portfolio

The assumption that the market portfolio follows a specified diffusion process implies, in a simple equilibrium framework, that the representative individual must have a certain utility function which is identified in the paper. Not every diffusion process is viable, i.e., can be “endogenized” to be the market portfolio's price process in such an equilibrium model. The paper provides necessary and sufficient conditions for viability which imply that viable diffusion processes constitute a rather restricted family.     

Fundamental Investors Reduce the Distraction on Management from Random Market “Noise”: Evidence from France

The authors find that financial markets have real effects on corporate decisions but that, unfortunately, some temporary market enthusiasm, unrelated to firm intrinsic value, may cause management to make value‐destroying decisions as the result of random and uninformed stock market volatility. In particular, they are prone to making bad decisions after stock market overreactions to “surprise” earnings announcements. This study shows a positive effect of greater long‐term ownership on French listed firms. Fundamental investor ownership reduces the degree of market mispricing which serves long‐run shareholder value maximization. A fundamental investor is one that, on average, hold his shares for at least two years, is in the top quartile of a firm ownership, and has an active allocation strategy. They are about 8% of all investors. Compared to non‐fundamental investors, fundamental investors hold their positions on average three times longer and have positions 1.5 times larger. Fundamental investors are more present in firms which have more liquid stocks, which pay dividends, and which are relatively poorer performers and have relatively lower market‐to‐book than their industry peers.     

THE HISTORY OF FINANCE: AN EYEWITNESS ACCOUNT

In this account of the evolution of finance theory, the “father of modern finance” uses the series of Nobel Prizes awarded finance scholars in the 1990s as the organizing principle for a discus‐sion of the major developments of the past 50 years. Starting with Harry Markowitz's 1952 Journal of Finance paper on “Portfolio Selection,” which provided the mean‐variance frame‐work that underlies modern portfolio theory (and for which Markowitz re‐ceived the Nobel Prize in 1990), the paper moves on to consider the Capi‐tal Asset Pricing Model, efficient mar‐ket theory, and the M & M irrelevance propositions. In describing these ad‐vances, Miller's major emphasis falls on the “tension” between the two main streams in finance scholarship: (1) the Business School (or “micro normative”) approach, which focuses on investors ‘attempts to maximize returns and cor‐porate managers’ efforts to maximize shareholder value, while taking the prices of securities in the market as given; and (2) the Economics Depart‐ment (or “macro normative”) approach, which assumes a “world of micro optimizers” and deduces from that assumption how the market prices actually evolve. The tension between the two ap‐proaches is resolved, and the two streams converge, in the final episode of Miller's history–the breakthrough in option pricing accomplished by Fischer Black, Myron Scholes, and Rob‐ert Merton in the early 1970s (for which Merton and Scholes were awarded the Nobel Prize in 1998, “with the late Fischer Black everywhere ac‐knowledged as the third pivotal fig‐ure”). As Miller says, the Black‐Scholes option pricing model and its many successors “mean that, for the first time in its close to 50‐year history, the field of finance can be built, or…rebuilt, on the basis of ‘observable’ magnitudes.” That option values can be calculated (almost entirely) with observable vari‐ables has made possible the spectacu‐lar growth in financial engineering, a highly lucrative activity where the prac‐tice of finance has come closest to attaining the precision of a hard sci‐ence. Option pricing has also helped give rise to a relatively new field called “real options” that promises to revolu‐tionize corporate strategy and capital budgeting. But if the practical applications of option pricing are impressive, the op‐portunities for further extensions of the theory by the “macro normative” wing of the profession are “vast,” in‐cluding the prospect of viewing all securities as options. Thus, it comes as no surprise that when Miller asks in closing, “What would I specialize in if I were starting over and entering the field today?,” the answer is: “At the risk of sounding like the character in ‘The Graduate,’ I reduce my advice to a single word: options.”     

The Extreme Future Stock Returns Following I/B/E/S Earnings Surprises

We investigate the stock returns subsequent to quarterly earnings surprises, where the benchmark for an earnings surprise is the consensus analyst forecast. By defining the surprise relative to an analyst forecast rather than a time‐series model of expected earnings, we document returns subsequent to earnings announcements that are much larger, persist for much longer, and are more heavily concentrated in the long portion of the hedge portfolio than shown in previous studies. We show that our results hold after controlling for risk and previously documented anomalies, and are positive for every quarter between 1988 and 2000. Finally, we explore the financial results and information environment of firms with extreme earnings surprises and find that they tend to be “neglected” stocks with relatively high book‐to‐market ratios, low analyst coverage, and high analyst forecast dispersion. In the three subsequent years, firms with extreme positive earnings surprises tend to have persistent earnings surprises in the same direction, strong growth in cash flows and earnings, and large increases in analyst coverage, relative to firms with extreme negative earnings surprises. We also show that the returns to the earnings surprise strategy are highest in the quartile of firms where transaction costs are highest and institutional investor interest is lowest, consistent with the idea that market inefficiencies are more prevalent when frictions make it difficult for large, sophisticated investors to exploit the inefficiencies.     

Global asset prices and FOMC announcements

This paper analyzes the impact of U.S. monetary policy announcement surprises on foreign equity indexes, short- and long-term interest rates, and exchange rates in 49 countries. We use two proxies for monetary policy surprises: the surprise change to the current target federal funds rate (target surprise) and the revision to the expected path of future monetary policy (path surprise). We find that different asset classes respond to different components of the monetary policy surprises. Global equity indexes respond mainly to the target surprise; exchange rates and long-term interest rates respond mainly to the path surprise; and short-term interest rates respond to both surprises. On average, a hypothetical surprise 25-basis-point cut in the federal funds target rate is associated with about a 1 percent increase in foreign equity indexes and a 5 basis point decline in foreign short-term interest rates. A surprise 25-basis-point downward revision in the expected path of future policy is associated with about a ½ percent decline in the exchange value of the dollar against foreign currencies and 5 and 8 basis point declines in short- and long-term interest rates, respectively. We also find that asset prices’ responses to FOMC announcements vary greatly across countries, and that these cross-country variations in the response are related to a country’s exchange rate regime. Equity indexes and interest rates in countries with a less flexible exchange rate regime respond more to U.S. monetary policy surprises. In addition, the cross-country variation in the equity market response is strongly related to the percentage of each country’s equity market capitalization owned by U.S. investors. This result suggests that investors’ asset holdings may play a role in transmitting monetary policy surprises across countries.     

美国金融科技最新立法监管动态及对我国的启示

金融科技有助于降低交易成本、提高市场效率,但同时也因其“空白型金融创新”的特质给传统金融监管方式带来严峻挑战。美国在金融科技的立法方面,强调“建章立制,立法先行”,创制法律规范具有前瞻性;在监管方面,秉持“负责任的创新”的监管理念,创新监管范式,力求实现金融创新与合法合规之间的动态平衡。我国可合理借鉴美国的立法和监管经验,加强金融科技的顶层设计和立法建设,创制新的专门性立法,构建有利于金融科技发展的监管协调机制,研究以行为监管为导向的监管范式,构建包容性监管制度,探索完善中国式“监管沙箱”机制,最终建构“技术驱动型”的金融监管体系。     

An inconsistency in SEC disclosure requirements? The case of the “insignificant” private target

Although the SEC's main charge is to ensure the disclosure of material information, it has not always consistently defined materiality. We show that acquisitions of privately-held targets classified as “insignificant” by the SEC appreciably affect market prices, and therefore are material by the SEC's definition. We find significant returns in transactions with targets as small as 2% – compared with the SEC's disclosure threshold of 20% – of the acquirer. Further, an average of 19 undisclosed private acquisitions per year exceed the median IPO value in the same year for our sample period. However, because the SEC deems these transactions insignificant, information like target financial statements remains undisclosed to the market. Disclosure rules regarding target financial statements thus create a regulatory disconnect, in which information that is material is nevertheless deemed “insignificant” and therefore not disclosed.     

Dwarf banks

This study examines the business model and the viability of very small commercial banks in emerging market context. Using a unique sample of 141 Russian banks with less than a $10 million in assets, I trace performance, survival, recapitalization and growth patterns of these dwarf banks in response to the sharp increase in the minimum capital requirements. I find that dwarf banks are, on average, low-risk financial intermediaries that perform simple operations and have significantly higher survival rates in local markets with poor economic and banking services outreach characteristics. I also find that the average dwarf banks withstand the regulatory capital shock surprisingly well by securing fresh capital injection followed by a twofold asset size increase. The results of this study contribute to the literature on the relationship between the small bank business model, local banking markets characteristics and long-term viability. They also provide new evidence on the expected and unexpected outcomes of the “too small to survive” regulatory intervention into the banking market size structures.     

The affect heuristic and stock ownership: A theoretical perspective

We consider asset prices and informational efficiency in a setting where owning stock confers direct utility due to an affect heuristic. Specifically, holding equity in brand name companies or those indulging in “socially desirable” activities (e.g., environmental consciousness) confers positive consumption benefits, whereas investing in “sin stocks” yields the reverse. In contrast to settings based on wealth considerations alone, expected stock prices deviate from expected fundamentals even when assets are in zero net supply. Stocks that yield high direct utility are, on average, more informationally efficient as they stimulate more entry into the market for these stocks and, consequently, more information collection. The analysis also accords with a value effect, high valuations of brand‐name stocks, abnormally positive returns on “sin stocks,” volume premia in the cross‐section of returns, proliferation of mutual funds and ETFs, and yields untested implications. If, as psychological literature suggests, agents derive greater utility from successful companies by “basking in reflected glory,” then asset prices react to public signals non‐linearly, leading to booms and busts, as well as crashes and recoveries.     

Speculative trading,prospect theory and transaction costs

A speculative agent with prospect theory preference chooses the optimal time to purchase and then to sell an indivisible risky asset to maximise the expected utility of the round-trip profit net of transaction costs. The optimisation problem is formulated as a sequential optimal stopping problem, and we provide a complete characterisation of the solution. Depending on the preference and market parameters, the optimal strategy can be “buy and hold”, “buy low, sell high”, “buy high, sell higher” or “no trading”. Behavioural preference and market friction interact in a subtle way which yields surprising implications on the agent’s trading patterns. For example, increasing the market entry fee does not necessarily curb speculative trading, but instead may induce a higher reference point under which the agent becomes more risk-seeking and in turn is more likely to trade.

     

The Beauty Contest and Short‐Term Trading

Short‐termism need not breed informational price inefficiency even when generating beauty contests. We demonstrate this claim in a two‐period market with persistent liquidity trading and risk‐averse, privately informed, short‐term investors and find that prices reflect average expectations about fundamentals and liquidity trading. Informed investors engage in “retrospective” learning to reassess inferences (about fundamentals) made during the trading game's early stages. This behavior introduces strategic complementarities in the use of information and can yield two stable equilibria that can be ranked in terms of liquidity, volatility, and informational efficiency. We derive implications that explain market anomalies as well as empirical regularities.     

It takes a model to beat a model: Volatility bounds

Models like the CAPM and Fama–French three-factor models are commonly used as benchmarks for calculating cost of capital and evaluating portfolio performance, despite the empirical evidence to reject them. For many practical purposes, “it takes a model to beat a model.” In this paper we derive restrictions on models that could “beat” a bench-mark model but might still be misspecified. In these “takes-a-model-to-beat-a-model” (TMBM) bounds, model A beats model B if model A's quadratic form of pricing errors is smaller. The bounds generalize the Hansen–Jagannathan bound and distance measure. We use the TMBM bounds to evaluate various linear factor models and consumption-based models. The failure of the power utility model is much less extreme when it is compared with the CAPM and Fama–French model. For reasonable utility curvature, the Ferson–Constantinides model and Epstein–Zin model perform best among the consumption-based models, beating the model of Campbell and Cochrane, in which model the value of the persistence parameter that matches the time-series properties of aggregate stock market returns seems too low for cross-sectional asset pricing.     

Market and Political/Regulatory Perspectives on the Recent Accounting Scandals

Not surprisingly, the recent accounting scandals look different when viewed from the perspectives of the political/regulatory process and of the market for corporate governance and financial reporting. We do not have the opportunity to observe a world in which either market or political/regulatory processes operate independently, and the events are recent and not well researched, so untangling their separate effects is somewhat conjectural. This paper offers conjectures on issues such as: What caused the scandalous behavior? Why was there such a rash of accounting scandals at one time? Who killed Arthur Andersen—the Securities and Exchange Commission, or the market? Did fraudulent accounting kill Enron, or just keep it alive for too long? What is the social cost of financial reporting fraud? Does the United States in fact operate a “principles‐based” or a “rules‐based” accounting system? Was there market failure? Or was there regulatory failure? Or both? Was the Sarbanes‐Oxley Act a political and regulatory overreaction? Does the United States follow an ineffective regulatory model?     

On the Feasibility of Automated Market Making by a Programmed Specialist

Securities trading is accomplished through the execution of orders. Admissible orders (e.g., market orders, limit orders) give rise to discontinuous aggregate demand functions, composed of many “steps.” Demand smoothing, or the balancing of excesses due to such discontinuities via intervention, is one of the most basic functions that could be assigned to a “specialist.” When the specialist's “affirmative obligation” is fully specified, his or her activity can in principle be automated. This paper is an attempt to assess, via simulation, some of the ramifications of using a “programmed specialist,” whose automated market making is limited to demand smoothing. A number of alternative rules of operation are simulated. Several of the rules performed well, especially the extremely simple rule that calls for the (computerized) specialist to minimize new absolute share holdings in each security at each trading point via “total” (as opposed to “local”) demand smoothing. Our results indicate that the underlying costs of demand smoothing are on the order of a fraction of a penny per share traded even in relatively thin markets.