Forthcoming Articles

Quoting Activity and the Cost of Capital

Ioanid Roşu, Elvira Sojli, and Wing Wah Tham
We study the quoting activity of market makers in relation to trading, liquidity, and expected returns. Empirically, we find larger quote-to-trade (QT) ratios in small, illiquid or neglected firms, yet large QT ratios are associated with low expected returns. The last result is driven by quotes, not by trades. We propose a model of quoting activity consistent with these facts. In equilibrium, market makers monitor the market faster (and thus increase the QT ratio) in neglected, difficult-to-understand stocks. They also monitor faster when their clients are more precisely informed, which reduces mispricing and lowers expected returns.

Misvaluation and Corporate Inventiveness

Ming Dong, David Hirshleifer, and Siew Hong Teoh
We test how market overvaluation affects corporate innovation. Estimated stock overvaluation is very strongly associated with measures of innovative inventiveness (novelty, originality, and scope), as well as R&D and innovative output (patent and citation counts). Misvaluation affects R&D more via a non-equity channel than via equity issuance. The sensitivity of innovative inventiveness to misvaluation is increasing with share turnover and overvaluation. The frequency of exceptionally high innovative inputs/outputs increases with overvaluation. This evidence suggests that market overvaluation may generate social value by increasing innovative output and by encouraging firms to engage in “moon shots.”


Where Does the Predictability from Sorting on Returns of Economically Linked Firms Come From?

Aaron Burt and Christopher Hrdlicka

Cross-firm predictability among economically linked firms can arise when both firms exhibit own-momentum and their returns are contemporaneously correlated. We show that cross- firm predictability can last up to 10 years, which is hard to reconcile with an interpretation of slow information diffusion. However, it is consistent with the economically linked firms’ commonality in momentum. The contribution of each source can be found by decomposing leaders’ returns into the predictable (momentum) and news components. Sorting on each, we find that both sources contribute almost equally to 1-month predictability, while commonality in momentum is solely responsible for longer-horizon cross-firm predictability.

The Puzzle of Frequent and Large Issues of Debt and Equity

Rongbing Huang and Jay R. Ritter

More frequent, larger, and more recent debt and equity issues in the prior three fiscal years are followed by lower stock returns in the subsequent year. The intercept of a q-factor calendar-time regression for the value-weighted portfolio of firms with at least three large issues is -0.63% per month (t-statistic =-4.31). Purging the factor returns of recent issuers increases the magnitude of the estimated underperformance following frequent equity issues. A value-weighted Fama–MacBeth regression shows that firms with three equity issues underperform non-issuers by 0.65% per month (t-statistic =-2.65). Earnings announcement returns are low following frequent issues, especially equity issues.

Safe Asset Shortages: Evidence from the European Government Bond Lending Market

Reena Aggarwal, Jennie Bai, and Luc Laeven

We identify the unique role of the government bond lending market in collateral transformation during periods of market stress. Using a novel database, we provide evidence that safe assets in the lending market have higher demand, higher borrowing cost, and higher usage of non-cash collateral relative to non-safe assets during stressed market conditions. Moreover, we find that market participants are able to obtain safe assets using relatively low-quality non-cash collateral, allowing for collateral transformation. We show that policy interventions by central banks can help reduce safe asset shortages by returning sought-after safe assets to the market.

Corporate Governance and Loan Syndicate Structure

Sreedhar Bharath, Sandeep Dahiya, and Issam Hallak

Firms with greater shareholder rights have a greater risk-shifting incentive requiring more lender monitoring. Thus, reduction in shareholder rights implies more diffused (less monitoring intensive) loan syndicates. Using the passage of US second-generation antitakeover laws as an exogenous shock that reduced shareholder rights as a natural experiment, we find that loan syndicates became significantly more diffuse after the passage of these laws. These results are confirmed in a large sample of bank loans made during the 1990-2007 period when the loan syndicate market matured. Our results show how corporate governance causally affects financial contracting and creditor control in firms.

The Predictive Power of the Dividend Risk Premium

Davide E. Avino, Andrei Stancu, and Chardin Wese Simen

We show that the dividend growth rate implied by the options market is informative about (i) the expected dividend growth rate and (ii) the expected dividend risk premium. We model the expected dividend risk premium and explore its implications for the predictability of dividend growth and stock market returns. Correcting for the expected dividend risk premium strengthens the evidence of dividend growth and stock market return predictability both in- and out-of-sample. Economically, a market timing investor who accounts for the time varying expected dividend risk premium realizes an additional utility gain of 2.02% per year.