Terrorism,country attributes,and the volatility of stock returns

This study investigates the interplay between terrorism and finance, focusing on the stock return volatility of American firms targeted by terrorist attacks. We find terrorism risk is an important factor in explaining the volatility of stock returns, which should be taken into account when modelling volatility. Using a volatility event-study approach and a new bootstrapping technique, we find volatility increases on the day of the attack and remain significant for at least fifteen days following the day of the attack. Cross-sectional analysis of the abnormal volatility indicates that the impact of terrorist attacks differs according to the country characteristics in which the incident occurred. We find that firms operating in wealthier, or more democratic countries, face greater volatility in stock returns relative to firms operating in developing countries. Firm exposure varies with the nature of country location, with country wealth and level of democracy playing an important role in explaining the likelihood of a terrorist attack. Our results show that despite significant terrorist events this past decade, stock markets in developed countries have not taken terrorist risk into sufficient consideration.     

The Impact of Terrorist Attacks on International Stock Markets

We examine the effects of terrorist attacks on stock markets, using a dataset that covers all significant events and that directly relate to the major economies of the world. Our event study suggests that terrorist attacks produce mildly negative price effects. We compare these price reactions to those from an alternative type of unanticipated disaster, earthquakes, and find that price declines following terror attacks are more pronounced. However, in both cases prices rebound within the first week of the aftermath. We also compare price responses internationally and for separate industries, and find that reactions are strongest for local markets and for industries that are directly affected by the attack. Our results suggest that financial markets react strongly to terror events but then recover swiftly and soon return to business as usual. The September 11th attacks turn out to be the only event that caused long‐term effects on financial markets, especially in terms of industries' systematic risk.     

Terrorist attacks and corporate investment: The beneficial value of CEO overconfidence

This study examines whether terrorist attacks influence corporate investments and firm value. We expect that overconfident CEOs can mitigate the underinvestment problem caused by terrorist attacks because they overestimate the returns on investment. Using measures of terrorist attack proximity in the U.S., we find that firms with non-overconfident CEOs significantly decrease their investment growth when terrorist attacks affect them, while firms with overconfident CEOs do not. Consequently, the impact of terrorist attacks on firm value varies between firms with overconfident and non-overconfident CEOs. Overall, this study suggests that CEO overconfidence can benefit shareholder value under certain conditions, such as terrorist attacks.     

An ill wind? Terrorist attacks and CEO compensation

Using multiple measures of attack proximity, we show that CEOs employed at firms located near terrorist attacks earn an average pay increase of 12% after the attack relative to CEOs at firms located far from attacks. CEOs at terrorist attack-proximate firms prefer cash-based compensation increases (e.g., salary and bonus) over equity-based compensation (e.g., options and stocks granted). The effect is causal and it is larger when the bargaining power of the CEO is high. Other executives and workers do not receive a terrorist attack premium.     

Terrorist attacks and company financial numbers: Evidence on earnings management and value relevance from Madrid, London and Istanbul

This study focuses on three major terrorist attacks that took place in Madrid on 11 March 2004, in London on 7 July 2005, and in Istanbul on 27 July 2008. It examines firms that belong to banking, insurance and leisure sectors and assesses the earnings management potential and the value relevance of reported financial numbers before and after the terrorist attack. The study shows that, in general, a terrorist attack is likely to increase the scope for earnings management and reduce the value relevance of reported financial numbers. The terrorist attacks in Madrid and Istanbul have led to higher earnings management potential and less value relevant financial numbers. In contrast, the UK terrorist attack has not increased the potential for earnings management, while the value relevance of reported financial numbers has increased. The findings indicate that the insurance industry and the leisure industry are more inclined to use earnings management after the attacks. Comparing the common-law and code-law countries after the attack, the study shows that the UK displays lower discretionary accruals and higher value relevance of reported financial numbers. It is noteworthy that, after the attacks, the UK exhibits higher profitability, leverage and liquidity compared to Spain and Turkey.     

Terrorism activities and long-term annual management forecasts

We study the effects of terrorist attacks on firms’ long-term annual management earnings forecasts bias. We find that the managers of firms located closer to the epicenters of attacks are more likely to issue optimistic long-term annual earnings forecasts relative to the managers of a control group of unaffected firms. The exposure effect is stronger for more severe terrorist events, and firms with more uncertain fundamentals and less geographic diversification. In addition, we document that managers’ forecast optimism intensifies for firms with stronger negative stock market reaction to the terrorist event, for CEOs with higher ability and for companies that are more likely to issue equity or engage in acquisitions following the terrorist event. Overall, our results are consistent with the idea that long-term annual earnings forecasts are used by managers to counterbalance the short-term pessimistic response to terrorist attacks.     

Explaining when developing countries liberalize their financial equity markets

This paper is the first to explain when countries opened their financial equity markets and is the first to explain financial liberalization using a large sample of developing countries. We test several novel hypotheses. We find that equity markets are opened earlier in countries that trade more with developed countries and that have more developed financial markets. Equity markets are opened earlier in democracies, especially if the country's leader is a civilian. Our other findings are consistent with the literature, which has found greater financial market openness in countries receiving more FDI, in richer countries, and in democracies.     

Terrorist attacks and oil prices: Hypothesis and empirical evidence

Using a unique dataset that merges terrorism activity with oil prices, this paper develops and tests the hypothesis that terrorist attacks predict oil prices. We develop three insights. First, we show that terrorist attacks have a positive effect on oil prices, but it is attacks originating from oil producer countries that most influence oil prices. Second, we devise trading strategies based on terrorist attacks and show that attacks, by signaling buying and selling in the market, beat a buy-and-hold strategy. We also show that a mean–variance investor who utilizes our terrorism-based forecasting model makes economically meaningful profits. Our analysis also shows that the effect of terrorism on oil prices operates via both the oil production and oil investment channels.     

Terrorism and Stock Market Sentiment

This paper examines the effects of terrorism on stock market sentiment by focusing on the behavior of expected probability density functions of the FTSE 100 index around terrorist attacks. We find that terrorism has a strong adverse impact on stock market sentiment. In particular, terrorist attacks are found to cause a pronounced downward shift in the expected value of the FTSE 100 index and a significant increase in stock market uncertainty. Furthermore, our results show that the expected FTSE 100 probability densities became significantly more negatively skewed and fat‐tailed in the immediate aftermath of terrorist acts.     

International Financial Reporting Standards,institutional infrastructures,and implied cost of equity capital around the world

Using a sample of 21,608 firm-years from 34 countries during 1998–2004, this study evaluates the impact of voluntary adoption of the International Financial Reporting Standards (IFRS) on a firm’s implied cost of equity capital. We find that the implied cost of equity capital is significantly lower for the full IFRS adopters than for the non-adopters even after controlling for potential self-selection bias and firm-specific and country-level factors that are known to affect the implied cost of capital. This result holds irrespective of institutional infrastructure determining a country’s governance and enforcement mechanisms. We also find that the implied cost of equity capital decreases with the efficacy of institutional infrastructure. Moreover, we provide evidence that the cost of capital-reducing effect of IFRS adoption is greater when IFRS adopters are from countries with weak institutional infrastructures than when they are from countries with strong infrastructures. The above results are robust to a battery of sensitivity checks.     

Changes in equity returns and volatility across different Australian industries following the recent terrorist attacks

We investigate the impact of five recent terrorist attacks on equities listed on the Australian Stock Exchange. Following the Global Industry Classification Standard, we analyse how these events affect the different sectors in Australia. Using parametric and non-parametric tests, we investigate the relationship between stock returns for equities listed in these sectors and terrorist attacks. We report significant short term negative abnormal returns around the September 11 attacks and to a lesser extent, the Madrid and London bombings. Our evidence shows a weak positive equity response to the Bali bombing, and no response from the Mumbai attack in the Australian market. We also document negative industry abnormal returns as high as 37.30% on the day in the Utilities sector. Our findings show that systematic risk of certain sectors increased after the events of September 11 but remained unchanged for the other attacks.     

An international comparison of scale economies in banking: Evidence from Turkey

In this article economies of scale are examined for Turkish banks. The literature on economies of scale in depository institutions is substantial. Yet, virtually all published articles have examined production/costs using data for developed countries, such as the United States, Canada, and Israel. Here we examine data from a country that has an economic system vastly different in terms of per capita productivity. Despite the differences, the results are similar across countries in that we find no significant evidence of economies of scale at output levels near the sample mean. This suggests that the conclusion from examining banks in developed countries—that a bank does not have to be large in order to be competitive from a cost perspective—holds in a less developed country.     

The impact of terrorism on financial markets: An empirical study

The main focus of this paper is to study empirically the impact of terrorism on the behavior of stock, bond and commodity markets. We consider terrorist events that took place in 25 countries over an 11-year time period and implement our analysis using different methods: an event-study approach, a non-parametric methodology, and a filtered GARCH-EVT approach. In addition, we compare the effect of terrorist attacks on financial markets with the impact of other extreme events such as financial crashes and natural catastrophes. The results of our analysis show that a non-parametric approach is the most appropriate method among the three for analyzing the impact of terrorism on financial markets. We demonstrate the robustness of this method when interest rates, equity market integration, spillover and contemporaneous effects are controlled. We show how the results of this approach can be used for investors’ portfolio diversification strategies against terrorism risk.     

Dispersed Trading and the Prevention of Market Failure: the Case of the Copenhagen Stock Exchange

With augmented demands on power grids resulting in longer and larger blackouts combined with heightened concerns of terrorist attacks, trading institutions and policy makers have widened their search for systems that avoid market failure during these disturbing events. We provide insight into this issue by examining trading behaviour at the Copenhagen Stock Exchange during a major blackout. We find that although market quality declined, markets remained functional and some price discovery occurred during the blackout period suggesting that the NOREX structure of interlinked trading systems combined with widely dispersed trading locations may be a viable means of protection against market failure during massive power disruptions or terrorist attacks.     

Political budget cycles in new versus established democracies

Like other recent studies, we find a political deficit cycle in a large cross-section of countries, but show that this result is driven by the experience of “new democracies”. The political budget cycle in new democracies accounts for the finding of a budget cycle in larger samples that include these countries and disappears when they are removed from the larger sample. The political deficit cycle in new democracies accounts for findings in both developed and less developed economies, for the stronger cycle in weaker democracies, and for differences in the political cycle across governmental and electoral systems. Our findings may reconcile two contradictory views of pre-electoral manipulation, one that it is a useful instrument to gain voter support and a widespread empirical phenomenon, the other that voters punish rather than reward fiscal manipulation.     

Cities under stress

This paper studies the effect of terrorist attacks on the internal structure of cities. We develop an urban framework with capital structures suitable for the study of this question and analyze the long and short term implications of this type of events. In the long run, the analysis shows that a terrorist attack will affect urban structure only modestly, relative to the potentially large decrease in the level of economic activity in the city. Land rents will not decline at all locations. In the short run, agglomeration forces will amplify the effect of the original destruction and will reduce urban economic activity temporarily.     

The food problem and the evolution of international income levels

In most poor countries, large fractions of land, labor, and other productive resources are devoted to producing food for subsistence needs. We show that a model incorporating the “food problem” can provide new and useful insights into the evolution of international income levels. In particular, we find that the food problem can explain why some countries started to realize increases in per capita output more than 250 years later in history than others. We also show that the food problem has important implications for growth miracles and the speed at which a country converges to its balanced growth path.     

Do high interest rates deter speculative attacks? – Evidence and some theory

This paper presents the first empirical evidence on the efficacy of raising interest rates ex ante as a deterrent to speculative attacks. Using a dataset that covers 54 countries from March 1964 through December 2005, we find strong evidence that raising interest rates in advance has significantly different impacts in different country groups. It significantly reduces the probability of attacks in countries that have a de facto hard peg but increases it in de facto soft-pegging countries. This finding is robust to alternative measure of monetary policy and to different specifications and samples. We then present a simple two-stage signaling model to offer a theoretical explanation for our empirical findings.     

How crosslisting affects merger and acquisition activity

Consistent with crosslisting decreasing the cost of capital, we find that firms which issue American Depositary Receipts (ADRs) are much more likely to undertake an acquisition than non-crosslisted firms. The results do not appear to be driven by self-selection, as the increase in acquisitions is robust to a Heckman correction as well as to a fixed-effect analysis. Adding the home country’s shareholder rights to the analysis, we find that crosslisted firms increase their takeover activity primarily if they are from weak shareholder rights countries. This evidence is consistent with crosslisting reducing the cost of capital of firms from weak governance countries significantly, and this reduction in cost of capital allows these firms to pursue more domestic and international takeovers.     

Stock Market Comovements and Industrial Structure

We use monthly stock indices for 58 countries to construct pairwise correlations of returns and explain these correlations with risk‐adjusted differences in industrial structure across countries. We find that countries with similar industries exhibit higher stock market comovements. The results are robust to the inclusion of other regressors such as differences in income per capita, stock market capitalizations, measures of institutions, as well as various fixed time, country, and country‐pair effects. Our results are consistent with models where the impact of each industry‐specific shock is proportional to the share of this industry in the overall industrial output of the country.