The horse has bolted: revisiting the market reaction to going concern modifications of audit reports

This paper examines what value is added by an audit report through an investigation of the information content for first‐time going concern modifications (GCMs). Consistent with prior research, we find no evidence of a short‐term market reaction to the public announcement of a first‐time GCM. We document a significant adverse medium‐term market reaction in the 12 months prior to a first‐time GCM announcement, but find no evidence of a persistent market underreaction in the 12 months following the announcement. These results are consistent with an audit opinion fulfilling an attestation function and confirming the deteriorating financial condition of a firm.     

The fading stock market response to announcements of bank bailouts

We analyze the effects on bank valuation of government policies aimed at shoring up banks’ financial conditions during the 2008–2009 financial crisis. Governments injected into troubled institutions massive amounts of fresh capital and/or guaranteed bank assets and liabilities. We employ event study methodology to estimate the impact of government-intervention announcements on bank valuation. Using traditional approaches, announcements directed at the banking system as a whole were associated with positive cumulative abnormal returns, whereas announcements directed at specific banks with negative ones. Findings are consistent with the hypothesis that individual institutions were reluctant to seek public assistance. However, when we correct standard errors for bank-and-time effects, virtually all announcement impacts vanish in Europe, whereas they weaken in the United States. The policy implication is that the large public commitments were either not credible or deemed inadequate relative to the underlying financial difficulties of banks.     

The market reaction to corporate governance regulation

This paper investigates the market reaction to recent legislative and regulatory actions pertaining to corporate governance. The managerial power view of governance suggests that executive pay, the existing process of proxy access, and various governance provisions [e.g., staggered boards and Chief Executive Officer (CEO)-chairman duality] are associated with managerial rent extraction. This perspective predicts that broad government actions that reduce executive pay, increase proxy access, and ban such governance provisions are value-enhancing. In contrast, another view of governance suggests that observed governance choices are the result of value-maximizing contracts between shareholders and management. This perspective predicts that broad government actions that regulate such governance choices are value destroying. Consistent with the latter view, we find that the abnormal returns to recent events relating to corporate governance regulations are, on average, decreasing in CEO pay, decreasing in the number of large blockholders, decreasing in the ease by which small institutional investors can access the proxy process, and decreasing in the presence of a staggered board.     

银行与股票市场越走越近

西方一位营销专家、曾经这样描述过五六十年代西方商业银行传统业务的繁荣景象：“主管信贷的银行高级职员，面色呆板地把客户安排在大写字台前比自己低得多的觉子上，居高临下，颐指气使。阳光透过窗子照在孤立无援的贷款者身上，他正在对银行的高级职员叙述着自己的贷款理由，而冰；争的银行大楼则宛如希腊神殿．让人不寒而粟。”     

The role of regulatory credibility in effective bank regulation

This paper develops a model of regulated Brownian motion with an endogenous profit term to analyze the role of regulatory credibility on the stability and productivity of the banking system. We show that when regulatory intervention is perfect and costless, the volatility of the system can be substantially reduced with no loss of productivity. In fact, perfect credibility can actually reduce the volatility of intrinsically risky banking systems below the volatility of intrinsically less risky systems as banks anticipate intervention and mitigate their investment behaviour accordingly. However, when the credibility of the regime is weakened because of increased uncertainty stemming from regulation, such as random costs or imperfect timing of regulatory intervention, both the stability and productivity of the financial system are impaired. Importantly, we find that in the presence of regulatory costs and imperfect credibility, there is no universal optimal intervention policy rule. The optimal regulatory system depends on the regulator’s level of absolute risk aversion.     

Interbank market liquidity and central bank intervention

We develop a simple model of the interbank market where banks trade a long term, safe asset. When there is a lack of opportunities for banks to hedge idiosyncratic and aggregate liquidity shocks, the interbank market is characterized by excessive price volatility. In such a situation, a central bank can implement the constrained efficient allocation by using open market operations to fix the short term interest rate. It can be constrained efficient for banks to hoard liquidity and stop trading with each other if there is sufficient uncertainty about aggregate liquidity demand compared to idiosyncratic liquidity demand.     

Monetary policy under alternative bank market structures

The purpose of this paper is to derive and compare the short-run effects of monetary policy under both perfectly and imperfectly competitive banking markets. Within the context of a general equilibrium framework which emphasizes the demands for and supplies of financial assets, it is demonstrated that the structure of banking markets can have a bearing on the appropriate choice of policy targets and instruments. Specifically, the Federal Funds rate is shown to be a potentially ineffective target/instrument for policy under a competitive banking system, although it can be used to produce conventional short-run effects when banking markets are imperfect. In contrast, the level of currency and unborrowed reserves can be utilized as an effective target/instrument under either form of bank market structure.     

The role of regulatory capital in international bank mergers and acquisitions

When investigating the role of regulatory capital in bank mergers and acquisitions (M&As) we finds that US targets are better capitalized than their acquirers and non-acquired peers and that US banks maintain higher capital levels than European banks. Thus, US banks strategically raise their capital levels to avoid regulatory scrutiny. Furthermore, more value is created for targets with high excess capital and in M&As involving targets with considerably higher excess-capital ratios than their acquirers. Thus, the excess regulatory capital hypothesis is supported. Finally, market prices reflect the influence that capital has on the probability of the merger's regulatory approval.     

The price of liquidity: The effects of market conditions and bank characteristics

We study the prices that individual banks pay for liquidity (captured by borrowing rates in repos with the central bank and benchmarked by the overnight index swap) as a function of market conditions and bank characteristics. These prices depend in particular on the distribution of liquidity across banks, which is calculated over time using individual bank-level data on reserve requirements and actual holdings. Banks pay more for liquidity when positions are more imbalanced across banks, consistent with the existence of short squeezing. We also show that small banks pay more for liquidity and are more vulnerable to squeezes. Healthier banks pay less but, contrary to what one might expect, banks in formal liquidity networks do not. State guarantees reduce the price of liquidity but do not protect against squeezes.     

Equity market information,bank holding company risk,and market discipline

For market discipline to be effective, market factors such as changes in firm equity and debt values and returns, must influence firm decision making. In banking, this can occur directly via bank management or indirectly though supervisory examinations and oversight influencing bank management. In this study, we investigate whether equity market variables can provide timely information and add value to accounting models that predict changes in bank holding company (BOPEC) risk ratings over the 1988–2000 period. Using a variety of equity market indicators, the findings suggest that one-quarter lagged market data adds forecast value to lagged financial statement data and prior supervisory information in the logistic regressions. Furthermore, using extensive out-of-sample testing for the years 2001–2003, we find: (1) that multiple models estimated over different phases of the business and banking cycles are superior to a single model for forecasting BOPEC rating changes; (2) that equity data adds economically significant power in forecasting BOPEC rating upgrades and performs well for identifying no changes; (3) that for downgrades, the accounting model forecasts the best; (4) that modeling the three possible risk ratings categories simultaneously (downgrade, no change and upgrade) minimizes both Type I and Type II classification errors; and (5) that using multiple models to forecast risk ratings enhances the overall percentage of correct classifications.     

A market test of investor reaction to disagreements

The SEC currently requires that firms disclose recent disagreements with their auditors over accounting or auditing matters when a change in auditor is reported. The effectiveness and usefulness of requirements to disclose disagreements have been questioned, and previous empirical research on the issue has been inconclusive. This study investigates the information content of disclosure of the auditor-firm disagreements. The analysis indicates a significant negative market reaction in the week that the Form 8-K is filed with the SEC. This finding is consistent with the position that the disclosure provides information useful to investors.     

Discretionary disclosure and the market reaction to restatements

This paper presents evidence that management’s disclosure choices related to a restatement are associated with the market reaction at the time the restatement is announced. The two aspects of pre-restatement disclosure choice we examine are the amount of disclosure, hypothesized to reduce information asymmetries, and the tone of disclosure, hypothesized to exacerbate the effect of subsequently-disconfirmed market expectations. Our results provide support for both hypothesized effects, controlling for characteristics that previous research has shown to affect market reaction to restatements—financial attributes of restatements, and concurrent disclosure choices such as prominence of the announcement. We also find that concurrent and prior disclosure characteristics have equivalent and complementary power in explaining market reaction to restatements, while interactive effects indicate that pre-restatement disclosure choices reduce the marginal market impact of concurrent disclosure characteristics.     

Impact of regulatory interactions on bank capital structure

This article examines a bank's optimal capital structure and risk-taking decisions in a regulated environment. We focus on the interactive nature of the Fed's collateralized discount window lending and the FDIC's deposit insurance. Such regulatory interactions are shown to have nonlinear and nonuniform impacts on the bank's leverage and risk-taking decisions. Thus, bank moral hazard problems may persist, even when banks are charged risk-adjusted deposit insurance premia and are also subject to market discipline through subordinate debt. Our analysis yields several new policy implications about the design and pricing of bank regulations.     

Does the stock market value bank diversification?

This paper investigates whether or not functionally diversified banks have a comparative advantage in terms of long-term performance/risk profile compared to their specialized competitors. To that end, this study uses market-based measures of return potential and bank risk. We calculate the franchise value over time of European banks as a measure of their long-run performance potential. In addition, we measure risk as both the systematic and the idiosyncratic risk components derived from a bank stock return model. Finally, we analyze the return/risk trade-off implied in different functional diversification strategies using a panel data analysis over the period 1989–2004. A higher share of non-interest income in total income affects banks’ franchise values positively. Diversification of revenue streams from distinct financial activities increases the systematic risk of banks while the effect on the idiosyncratic risk component is non-linear and predominantly downward-sloping. These findings have conflicting implications for different stakeholders, such as investors, bank shareholders, bank managers and bank supervisors.     

The role of technological and market structure in regulatory reform

This article considers the role of technological and market structure in determining whether regulatory reform is desirable, and the nature of reform that might be undertaken to improve resource allocation. The article discusses the basis for government intervention in an industry, the role of natural monopoly, and alternative approaches that might be employed to introduce competition for a market even if competition within a market is not possible (e.g., through competitive auctions, contestability, or monopolistic competition). It suggests the nature of the economic basis for regulatory reform in a number of American industries in recent years.The author would like to thank George Kaufman, George Benston, and Randy Eberts for their helpful comments.     

The effect of the summer doldrums on the market reaction to earnings announcements

Hong and Yu (2009) document a significant decrease in trading volume and returns during the summer months. Given the tendency of noise traders to buy shares following both positive and negative earnings surprises (Lee, 1992), we hypothesize that reduced trading activity by noise-traders results in less of an earnings announcement premium during the summer. Consistent with our hypothesis, we find lower abnormal returns surrounding summer earnings announcements compared to non-summer announcements. We also find lower abnormal returns in the ten days prior to the announcement, consistent with less front-running by sophisticated investors. Finally, we show that these summer effects are stronger in recent years characterized by more online trading and greater noise trader participation.     

Credit market equilibrium with bank monitoring and moral hazard

We characterize a credit market equilibrium in which banks coexistwith capital markets and firms obtain funding from both sources.An incentive problem exists between the firm's insiders andoutside providers of capital. Banks can provide not only creditbut also monitoring services. We show that when banks cannotprecommit to a particular level of monitoring there is a uniquecredit market equilibrium with firms being financed with a combinationof bank credit and external capital. In this equilibrium, amarginal substitution of bank credit for capital market financingwould raise the firm's stock price.