Do auctions induce a winner's curse? New evidence from the corporate takeover market

We contrast the winner's curse hypothesis and the competitive market hypothesis as potential explanations for the observed returns to bidders in corporate takeovers. The winner's curse hypothesis posits suboptimal behavior in which winning bidders fail to adapt their strategies to the level of competition and the amount of uncertainty in the takeover environment and predicts that bidder returns are inversely related to the level of competition in a given deal and to the uncertainty in the value of the target. Our measure of takeover competition comes from a unique data set on the auction process that occurs prior to the announcement of a takeover. In our empirical estimation, we control for the endogeneity between bidder returns and the level of competition in takeover deals. Controlling for endogeneity, we find that the returns to bidders are not significantly related to takeover competition. We also find that uncertainty in the value of the target does not reduce bidder returns. Related analysis indicates that prestigious investment banks do not promote overbidding. Analysis of post-takeover operating performance also fails to find any negative effects of takeover competition. As a whole, the results indicate that the breakeven returns to bidders in corporate takeovers stem not from the winner's curse but from the competitive market for targets that occurs predominantly prior to the public announcement of bids.     

Can splits create market liquidity? Theory and evidence

We present a market microstructure model of stock splits in the presence of minimum tick size rules. The key feature of the model is that discretionary trading is endogenously determined. There exists a tradeoff between adverse selection costs on the one hand and discreteness related costs and opportunity costs of monitoring the market on the other hand. Under certain parameter values, there exists an optimal price. We document an inverse relation between the coefficient of variation of intraday trading volume and the stock price level. This empirical evidence and other existing evidence are consistent with the model.     

Sovereign debt auctions: Uniform or discriminatory?

Many financial assets, especially government bonds, are issued by an auction. An important feature of the design is the auction pricing mechanism: uniform versus discriminatory. Theoretical papers do not provide a definite answer regarding the dominance of one type of auction over the other. We investigate the revealed preferences of the issuers by surveying the sovereign issuers that conduct auctions. We find that the majority of the issuers/countries in our sample use a discriminatory auction mechanism for issuing government debt. We use a multinomial logit procedure and discriminatory analysis to investigate the mechanism choice. It was interesting to find that market-oriented economies and those that practice common law tend to use a uniform method while economies who are less market oriented and practice civil law tend to use discriminatory price auctions.     

Tests of market models: heteroskedasticity or misspecification?

This paper investigates the nature and the incidence of heteroskedasticity and misspecification in the market models by utilizing tests that are generally applicable. The results show that heteroskedasticity appears more frequently than misspecification even though both are serious problems. The evidence also indicates that the use of a quadratic market model or equally weighted market returns may lead to a smaller percentage of heteroskedastic cases but that, in general, this advantage has to be offset against an increase in the occurrence of specification errors. Small firms and January returns are also observed to produce a higher incidence of both heteroskedasticity and misspecification.     

Has stock exchange demutualization improved market quality? International evidence

Review of Quantitative Finance and Accounting - We investigate the market quality effects of stock exchange demutualization and find that demutualized exchanges have achieved significant...     

Do China's macro-financial factors determine the Shanghai crude oil futures market?

Existing studies have investigated the Chinese Shanghai crude oil futures (INE) from price efficiency, cross-futures transmission, etc., but neglected the potential links with China. This paper is committed to filling this gap by conducting an initial discussion from the perspective of macro-financial factors. Applying the dynamic model averaging (DMA) approach, we examine the time-varying importance of the six potential factors that drive the INE prices. The results based on the overall conditions of all determinants and based on individual predictors both support the crucial roles of some Chinese macro-financial factors. The pricing effects of these factors almost display upward features within 6 months since the INE establishment. Thereafter, it maintains an overall stable trend, though some abnormal turmoil is found after the COVID-19 outbreak. According to the multi-scale analysis, the importance of China's macro-financial factors mainly reveals the INE market at the low-frequency components. To confirm the robustness of the estimation and the uniqueness of such effects on the INE, we utilize an alternative forecast accuracy criterion to confirm stability, accommodate the DMA estimation on the WTI and Brent oil futures prices as comparisons, and discuss the frequency domain through another decomposition procedure. These all mirror our findings.     

Does reputation matter? Evidence on spatial competition in China's bond market

This study investigates the effect of market competition on the reputational concerns of credit rating agencies (CRAs) in the Chinese bond market. We find credit ratings increase when the market share distance between an incumbent CRA and its closest peer competitor decreases. This spatial competition effect only exists at the provincial level. We also find the market competition deteriorates the ability of ratings to predict future bond defaults, while the correlation between credit ratings and market-implied credit spreads is unaffected. Our findings suggest that because of the market inefficiency in emerging economies, CRAs privilege current profits over reputational concerns.     

The impact of intangibles on firms’ financial and market performance: UK evidence

This study provides empirical evidence about the effect of intangible assets on firms’ current and future financial and market performance by utilizing a sample the UK FTSE 150 nonfinancial companies. Generally, the findings of this examination reported a strong evidence on the role of intangibles in boosting firms’ performance. In particular, the results indicate that while goodwill (GW) does have a statistically positive effect on firms’ current and future performance, research and development (R&D) is only associated with firms’ future performance. The results of the current research is consistent with the market-based and resources-based theories which posits that intangible investments are the main driving factors of wealth creation in the long-run; Specifically, R&D operations can create new technologies and products that would enhance firms’ performance and value. In addition, the results reveal that both GW and R&D can explain variations in firms’ financial performance measures suggesting that such investments can enhance firms’ earning leading to capitalization such earnings in the market value. Finally, the results of this research provide practical implication for policy makers and managers.     

Less is more? New evidence from stock market volatility predictability

The complex nature of stock market volatility has motivated researchers to apply a variety of predictors to obtain reliable predictive information for precise forecasting. This study seeks to examine the effectiveness of the novel Global Financial Uncertainty (GFU) indices, comprising of only five sub-indices, in predicting stock market volatility using the widely used mixed-data sampling (MIDAS) model. The results demonstrate the remarkable and stable predictive power of GFU, even during crises and global financial uncertainty shocks. Specifically, the financial uncertainty index from Europe plays a significant role in our analysis. Importantly, we find that the GFU index outperforms a large number of other indicators in stock volatility forecasting. The statistical and economic significance of the predictive power of GFU is remarkable. Our study provides significant insights for market participants and policymakers that highlight the need to prioritize global financial uncertainty.     

Do market capitalization and stocks traded converge? New global evidence

In this paper, we examine convergence of stock markets. Our empirical exercise is based on 11 different panels, which together consist of 120 countries. The richness of the dataset allows us to disaggregate countries into panels, such as high income, middle income, low income, OECD, CSI, and developing country panels. In addition, we construct regional panels, such as those representing the Arab States, East Asia and the Pacific, South Asia, Latin America and the Caribbean, and Sub-Saharan Africa. Our main finding is that, based on the conditional convergence model, convergence of stock market capitalization and stocks traded is found for four panels, namely the high and low-income panels, the OECD panel, and the Sub-Saharan African panel. The speed of convergence is high, in most cases between 20% and 30%.     

Are extreme returns priced in the stock market? European evidence

This paper revisits some recently found evidence in the literature on the cross-section of stock returns for a carefully constructed dataset of euro area stocks. First, we confirm recent results for US data and find evidence of a negative cross-sectional relation between extreme positive returns and average returns after controlling for characteristics such as momentum, book-to-market, size, liquidity and short term return reversal. We argue that this is the case because these stocks have lottery-like characteristics, which is attractive to certain investors. Also, these stocks tend to be very volatile so that arbitrageurs are discouraged from correcting potential mispricing. As a consequence, these stocks are often overpriced and hence face lower expected returns. Second, when we control for extreme returns, the recently found negative relationship between idiosyncratic risk and future returns is less robust. In our models, after adding maximum returns, the relationship is insignificant and sometimes even positive. We also find that idiosyncratic skewness and coskewness play an important role for asset pricing, as predicted by several theoretical models.     

Grand corruption instead of commitment? Reconsidering time-inconsistency of monetary policy

This paper suggests that inflation may be affected differently by grand corruption compared to its positive nexus with petty corruption. In an extended Barro and Gordon (1983a) model grand corruption may serve as a quasi-commitment device: a cheating (expropriating) government may actually deter a monetary authority from cheating (reneging). Furthermore, Rogoff”s (1985) conservative central banker has an unambiguously beneficial effect; she reduces the inflationary bias even more while also rendering fiscal policy more effective. The model nests the standard fiscal–monetary interaction logic with and without expropriation as well as the diametrical “symbiosis” result obtained by Dixit and Lambertini (2003a).     

Golden parachutes: credible commitments or evidence of shirking?

External agents are frequently characterized as necessary for efficiency in team production settings. At the same time, these agents must be constrained from opportunistically exercising their enforcement capabilities. I argue that collective action costs and formal institutions (e.g., golden parachute agreements) can act as substitute factors in producing this constraint. The incidence of golden parachutes in a sample of S&P 500 firms is consistent with this conjecture: golden parachutes are more likely in firms with concentrated ownership. Interpreted in this light, golden parachutes enhance efficiency by increasing the credibility with which owners can commit against opportunism.     

How does China's stock market react to supply chain disruptions from COVID-19?

As a once-in-a-century global pandemic, COVID-19 severely hit the global economy and disrupted the worldwide supply chain. Based on 505 Chinese firms, we use the event study method to explore the effect of COVID-19 on the financial performance of firms. The findings show that COVID-19 has an immediate impact on Chinese firms. Hubei firms experience stronger effects than non-Hubei firms. Supply chain disruptions effects from COVID-19 are observed. Transportation industry is hit more severely than retail industry. Insurance companies experience a strong adverse effect. On the other hand, both medical and competitor firms experience significantly positive spillover effects.     

Is beta still alive? Conclusive evidence from the Swiss stock market

Recent evidence from Fama and French (1992, 1996) and others shows that betas and returns are not related empirically. They interpret this as evidence against the validity of the capital asset pricing model and conclude that the beta is not a good measure of risk. This paper claims that usual tests do not leave much opportunity for beta to appear as a useful variable capable of explaining returns, because tests are often performed in periods where the average realized market excess return is not significantly different from zero. In order to assess the usefulness of beta, an alternative approach that dissociates results obtained in periods where the realized market excess is positive from those where it is negative is proposed. These new tests are then applied to a representative sample of the Swiss stock market over the period 1983–1991. The different results unambiguously support the fact that beta is a good measure of risk, because beta is strongly related to the cross-section of realized returns. These results also confirm that there are no arbitrage opportunities on this market.     

How credible is a too-big-to-fail policy? International evidence from market discipline

This paper analyzes in an international sample of banks from 104 countries if the sensitivity of the cost of deposits to bank risk varies across banks depending on their systemic and absolute size. We analyze a period before the 2007 financial crisis and control for endogeneity of bank size, intervention policies in past banking crises, and soundness of countries’ public finances. Our results are consistent with the predominance of the too-big-to-fail hypothesis, although this effect is stronger in countries that did not impose losses on depositors in past banking crises and in countries with sounder public finances.     

Do aggressive orders affect liquidity? An evidence from an emerging market

This paper investigates how aggressive orders affect spreads and trading activity measures on the stock market. Based on a sample of stocks listed on the Warsaw Stock Exchange this study finds that spreads and trading activity measures increase significantly when aggressive orders are executed, but quickly revert to initial levels. The reaction to these orders on the bid and ask side of the market is similar. The effect of aggressive orders differ depending on the size of the firms. Trading activity measures such as volumes or number of transactions increase stronger for bigger than for smaller stocks, while spreads increase more for smaller firms than for bigger ones. These findings enrich the understanding of liquidity dynamics especially on the emerging markets where liquidity is an important price formation factor.     

Does the market discipline banks? New evidence from regulatory capital mix

While bank capital requirements permit a bank to freely substitute between equity and subordinated debt, lenders and investors view debt and equity as imperfect substitutes. It follows that, after controlling for the level of regulatory capital, the mix of debt in capital isolates the role that the market plays in disciplining banks. I document that the mix of debt in capital affects bank behavior, but only when investors can impose real constraints. In particular, the mix of debt reduces the probability of failure and future distress for BHC-affiliated institutions (where the investor has control rights through an equity position) and for stand-alone banks before the Basel Accord (when debt issues included restrictive covenants). However, substituting equity for subordinated debt at the bank holding company level or in stand-alone banks since the Basel Accord (where the investor has few protections) only increases the probability of distress and failure.     

Is the UAE stock market integrated with the USA stock market? New evidence from asymmetric causality testing

The integration and development of financial markets is an important issue because it can result in economic growth via increasing exchange and more efficient allocation of scarce resources. It is also important for defining and conducting appropriate policies to counteract adverse spill-over effects across markets. The main goal of this paper is to assess the degree of integration or segmentation of the UAE stock market with the USA market by conducting new causality tests developed by Hatemi-J (forthcoming) that separate the effect of positive shocks from the negative ones. The empirical results based on standard symmetric causality tests indicate that the UAE market is segmented from the USA market. However, when the asymmetric causality tests are implemented the results reveal clearly that the UAE market is indeed integrated with the USA market. These results show, in addition, that the degree of integration is stronger when the markets are falling than rising.     

Discount or premium? Pricing of structured products: An analysis of Chinese market

Structured products combine elementary instruments from the spot and derivative markets. The existing evidence on mature markets shows that structured products are commonly charged with large implicit premiums compared to their theoretical values. However, this paper finds that structured products in Chinese market are, on average, priced closely to their theoretical values, which no longer favors the issuing institution. This is reasonable as the issuing banks' market power in China is relatively low compared to those in mature markets, given three characteristics in Chinese market (the intense competition from Internet finance, strict short-sell constraints, and the lack of secondary market as well as redeemable claims). Specifically, based on a database including 126 structured products with various underlying assets and durations from two main structured products issuing banks in China, this paper finds two more interesting results. First, structured products with call option and double option components are generally issued at a small discount, while most structured products with put options components are issued at a small premium. Second, a significantly negative correlation is also found between implicit premium and duration, indicating that the implicit premium rates of short-term products are higher than those of long-term products. Overall, these findings suggest that issuing banks' market power is weakened by the competitive market and incomplete market structure.