The Presidential Puzzle: Political Cycles and the Stock Market

The excess return in the stock market is higher under Democratic than Republican presidencies: 9 percent for the value‐weighted and 16 percent for the equal‐weighted portfolio. The difference comes from higher real stock returns and lower real interest rates, is statistically significant, and is robust in subsamples. The difference in returns is not explained by business‐cycle variables related to expected returns, and is not concentrated around election dates. There is no difference in the riskiness of the stock market across presidencies that could justify a risk premium. The difference in returns through the political cycle is therefore a puzzle.     

Valuation in US Commercial Real Estate

We consider a log‐linearized version of a discounted rents model to price commercial real estate as an alternative to traditional hedonic models. First, we verify a key implication of the model, namely, that cap rates forecast commercial real estate returns. We do this using two different methodologies: time series regressions of 21 US metropolitan areas and mixed data sampling (MIDAS) regressions with aggregate REIT returns. Both approaches confirm that the cap rate is related to fluctuations in future returns. We also investigate the provenance of the predictability. Based on the model, we decompose fluctuations in the cap rate into three parts: (i) local state variables (demographic and local economic variables); (ii) growth in rents; and (iii) an orthogonal part. About 30% of the fluctuation in the cap rate is explained by the local state variables and the growth in rents. We use the cap rate decomposition into our predictive regression and find a positive relation between fluctuations in economic conditions and future returns. However, a larger and significant part of the cap rate predictability is due to the orthogonal part, which is unrelated to fundamentals. This implies that economic conditions, which are also used in hedonic pricing of real estate, cannot fully account for future movements in returns. We conclude that commercial real estate prices are better modelled as financial assets and that the discounted rent model might be more suitable than traditional hedonic models, at least at an aggregate level.     

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.