Sparse Signals in the Cross‐Section of Returns

This paper applies the Least Absolute Shrinkage and Selection Operator (LASSO) to make rolling one‐minute‐ahead return forecasts using the entire cross‐section of lagged returns as candidate predictors. The LASSO increases both out‐of‐sample fit and forecast‐implied Sharpe ratios. This out‐of‐sample success comes from identifying predictors that are unexpected, short‐lived, and sparse. Although the LASSO uses a statistical rule rather than economic intuition to identify predictors, the predictors it identifies are nevertheless associated with economically meaningful events: the LASSO tends to identify as predictors stocks with news about fundamentals.     

Far from the madding crowd: collective wisdom in prediction markets

We investigate market selection and bet pricing in a repeated prediction market model. We derive the conditions for long-run survival of more than one agent (the crowd) and quantify the information content of prevailing prices in the case of fractional Kelly traders with heterogeneous beliefs. It turns out that, apart some non-generic situations, prices do not converge, neither almost surely nor on average, to true probabilities, nor are they always nearer to the truth than the beliefs of all surviving agents. This implies that, in general, prediction market prices are not maximum likelihood estimators of the true probabilities. However, when more than one agent survives, the average price emerging from a prediction market approximates the true probability with lower information loss than any individual belief.     

Notes from a life influenced by Wendell Bell

Wendell Bell's idealistic vision of the role of the sociologist in creating a brighter future for society and his theoretical framework of the role of intellectual elites in the decisions of nationhood are examined through the personal lens of a former Caribbean student of the West Indies Study Program at UCLA.     

The IPO market as a screening device and the going public decision: evidence from acquisitions of privately and publicly held firms

The main purpose of this paper is using a unique data set from IPO filings to study the IPO market as a screening device and the going public decision. We find that private firms that are less likely to have the option to access public equity markets receive 54 cents for each dollar they expected to raise in an IPO, whereas firms that are more likely to have the option to go public but sell privately sell at $1.11 for each dollar they expected to receive at the IPO. This result suggests that the lower valuation for firms sold in private markets compared to firms sold in public markets can be at least partially explained by the lower relative bargaining power of private firms. However, owners that took their firms public before selling received, on average, 40% larger payoffs than owners that had the option to go public but decided to sell privately. The results in this study indicate that these differences in valuation are not fully explained by existing theoretical models on the decision to sell privately or in two stages.     

How well do investors understand loss persistence?

This paper examines investors’ expectations of loss persistence. I develop a model to forecast loss firms’ future earnings based on Joos and Plesko, The Accounting Review 80: 847–870, (2005). This model produces smaller forecast errors than two random walk models and a model that assumes losses are transitory. The results suggest that investors do not fully distinguish the differences in loss persistence captured by the model and instead appear to assume that all losses are transitory. Consequently, investors are surprised by future announcements of negative earnings for firms with predicted persistent losses, and these firms experience significantly negative abnormal returns over the following four quarters. Additional results indicate that the future negative returns of firms with predicted persistent losses are smaller in magnitude when these firms are followed by analysts. The results are robust to controls for various price anomalies and are not driven by short sale constraints.     

Corporate governance and the probability of default

We employ Merton's probability of default as a continuous ex‐ante measure of the likelihood of firm failure and dynamic panel generalised method of moments to better characterise the relationship between corporate governance and the chance of default. In doing so, we overcome limitations of discrete proxies widely used in previous studies and more completely account for endogeneity issues permeating this area of research. While initial testing designed to facilitate comparison with previous studies suggests a significant relationship between the probability of default and executive pay, board structure and ownership structure, once endogeneity concerns are accounted for, no such relationship remains.     

A theory of risk disclosure

In this paper, we consider the price effects of risk disclosure. We develop a model in which investors are uncertain about the variance of a firm’s cash flows and the firm releases an imperfect signal regarding this variance. In our model, uncertainty over the riskiness of a firm’s cash flows leads to a variance uncertainty premium in its price. We demonstrate that risk disclosure decreases the firm’s cost of capital by reducing this premium and that the market response to risk disclosure is small when the expected level of risk is high. Moreover, we find that firms acquire and disclose more risk information when their cash flow risk is greater than expected. Finally, we demonstrate that in a multi-asset setting, only risk disclosure concerning systematic risks will impact the cost of capital.     

Q-analytics: An ethics case on unlicensed software usage

This short role-taking ethics case is designed to provide students with several different perspectives related to the unauthorized/unlicensed use of software within a realistic accounting setting. Although the case could be considered for use in a variety of accounting classes at both undergraduate and graduate levelswith limited preparation, it is likely to be most relevant to Accounting Information Systems, Auditing, Controllership, and Accounting Ethics courses. The case can be read in about ten minutes, after which the class is assigned to groups that deliberate over the concerns of six different roles regarding the software-usage issues implied in the case.The issues are relevant to the students because they will inevitably encounter software-usage problems in their personal or professional lives. Furthermore, they inevitably have been exposed to similar copyright-infringement issues in the realms of music and video, which helps make for a rich class discussion.The case has consistently generated considerable discussion and debate within a graduate-level controllership course. A survey of students from five graduate accounting classes over a three-year period indicates favorable perceptions of the case.     

Interest on bank reserves and optimal sweeping

A key rationale offered by the Federal Reserve for the payment of interest on reserves was to remove the incentive for banks to operate sweep accounts. Sweeping shifts funds from transactions deposits subject to reserve requirements to non-reservable deposits. This paper extends a conventional banking model to analyze sweeping behavior. Sweeping responds positively to increases in bank loan rates and reserve ratios and negatively to increases in the interest rate on reserves or exogenous increases in bank equity. Sweeping generates greater responsiveness in lending to changes in loan rates or the interest rate on reserves and lower responsiveness to changes in reserve ratios or equity than in its absence. Empirical analysis of an explicit condition that we derive suggests that, with an unchanged reserve requirement, the Fed could eliminate sweeping by setting the interest rate on reserves to no less than approximately 4% points below the market loan rate.