Taking a Position
On ESG Investing: Heterogeneous Preferences, Information, and Asset Prices
Itay Goldstein et al.
NBER Working Paper, April 2022
Abstract:
We study how environmental, social and governance (ESG) investing reshapes information aggregation by prices. We develop a rational expectations equilibrium model in which traditional and green investors are informed about financial and ESG risks but have different preferences over them. Because of the preference heterogeneity, traditional and green investors trade in the opposite directions based on the same information. We show that the equilibrium price may not be uniquely determined. An increase in the fraction of green investors and an improvement in the ESG information quality can reduce price informativeness about the financial payoff and raise the cost of capital.
Media Conglomeration, Local News, and Capital Market Consequences
Travis Dyer, Mark Lang & Jun Oh
BYU Working Paper, March 2022
Abstract:
We examine the effect of news media consolidation on local business news dissemination and its consequences for local investors and capital markets. We use acquisitions of television stations by Sinclair Inc. as plausibly exogenous shocks to local news coverage since Sinclair is alleged to reduce local news budgets and homogenize news coverage. Using large-scale television transcripts data, we find that coverage of local firms drops substantially following Sinclair acquisitions. Further, we document that investor attention, trading, portfolio holdings, and stock return synchronicity all become less locally concentrated for firms in treated geographic areas, and that the informational advantage of local analysts decreases and bid-ask spreads increase. The results are pronounced for small firms, for stations with higher ex-ante viewership, and for stations with greater decreases in local coverage. In combination, these results provide insight into the consequences of media consolidation for local business coverage, investors, and capital markets.
Political Uncertainty and Household Stock Market Participation
Vikas Agarwal et al.
Journal of Financial and Quantitative Analysis, forthcoming
Abstract:
Using micro-level panel data and a difference-in-differences identification strategy, we study the effect of political uncertainty on household stock market participation. We find that households significantly reduce their participation and reallocate funds to safer assets during periods of increased political uncertainty prior to gubernatorial elections. The decline in participation is related to households’ response to elevated asset risk and their incentive to hedge increased labor income risk. In situations where uncertainty remains high after elections, pre-election reduction in participation is only partially reversed.
Survival and the Ergodicity of Corporate Profitability
Philipp Mundt, Simone Alfarano & Mishael Milaković
Management Science, forthcoming
Abstract:
The cross-sectional variation in corporate profitability has occupied research across fields as diverse as strategic management, industrial organization, finance, and accounting. Prior work suggests that corporate idiosyncrasies are important determinants of profitability, but it disagrees on the quantitative importance of particular effects. This paper shows that corporate specificities become irrelevant in the long run because profitability is ergodic conditional on survival, leading to a uniform, time-invariant regularity in profitability that applies across firms. Conditional on survival, we cannot reject the hypothesis that corporations are on average equally profitable and also experience equally volatile fluctuations in their profitability, irrespective of their individual characteristics. Because the same is not true for shorter-lived firms, even for more than 20 years after entry, we can reconcile our findings with an extensive literature that studies profitability in heterogeneous samples of surviving and shorter-lived firms. Our findings provide a new benchmark for long-term performance in competitive environments and offer a novel perspective by highlighting a robust commonality instead of specificities.
Information in Financial Markets: Who Gets It First?
Nathan Swem
Journal of Banking & Finance, forthcoming
Abstract:
I compare the timing of information acquisition among institutional investors and sell-side analysts. I find that hedge funds are unique: they anticipate analyst reports, and then reverse their positions after analysts publish reports. These trends are strongest for hedge funds and analysts most closely geographically situated. I also find that hedge funds generate their highest risk-adjusted returns among stocks with high analyst coverage. These results indicate that hedge funds are faster relative to analysts and other investors, and suggest that analysts assist hedge funds in exploiting their information acquisition advantages.
Man versus machine: On artificial intelligence and hedge funds performance
Klaus Grobys, James Kolari & Joachim Niang
Applied Economics, forthcoming
Abstract:
Employing partially hand-collected data, sample hedge funds are formed into four categories depending on their level of automation. We find that hedge funds with the highest level of automation outperform other hedge funds with more reliance on human involvement. Also, we find that a man versus machine zero-cost strategy that is long hedge funds portfolio with highest level of automation and short those with highest level of human involvement yields a highly significant spread of at least 50 basis points per month. We conclude that automation plays an important role in the profitability of the hedge fund industry.
Bubbles and the Value of Innovation
Valentin Haddad, Paul Ho & Erik Loualiche
NBER Working Paper, April 2022
Abstract:
Booming innovation often coincides with intense speculation in financial markets. Using over a million patents, we document two ways the market valuation of innovation and its economic impact become disconnected during bubbles. Specifically, an innovation raises the stock price of its creator by 40% more than is justified by future outcomes. In contrast, competitors’ stock prices move little despite their profits suffering. We develop a theory of investor disagreement about which firms will succeed that reconciles both the facts, unlike existing models of bubbles. Optimal innovation policy during bubbles must account for the disconnect.
Biased by Choice: How Financial Constraints Can Reduce Financial Mistakes
Rawley Heimer & Alex Imas
Review of Financial Studies, April 2022, Pages 1643–1681
Abstract:
We show that constraints can improve financial decision-making by disciplining behavioral biases. In financial markets, restrictions on leverage limit traders’ ability to borrow to open new positions. We demonstrate that regulation that restricts the provision of leverage to retail traders improves trading performance. By increasing the opportunity cost of postponing the realization of losses, leverage constraints improve traders’ market timing and reduce their disposition effect. We replicate these findings in two distinct experimental settings, further isolating the mechanism and demonstrating generality of the results. The interaction between constraints and behavioral biases has implications for policy and choice architecture.
Investor Sentiment and Paradigm Shifts in Equity Return Forecasting
Liya Chu et al.
Management Science, forthcoming
Abstract:
This study investigates the impact of investor sentiment on excess equity return forecasting. A high (low) investor sentiment may weaken the connection between fundamental economic (behavioral-based nonfundamental) predictors and market returns. We find that although fundamental variables can be strong predictors when sentiment is low, they tend to lose their predictive power when investor sentiment is high. Nonfundamental predictors perform well during high-sentiment periods while their predictive ability deteriorates when investor sentiment is low. These paradigm shifts in equity return forecasting provide a key to understanding and resolving the lack of predictive power for both fundamental and nonfundamental variables debated in recent studies.
Speed and Expertise in Stock Picking: Older, Slower, and Wiser?
Romain Boulland, Chayawat Ornthanalai & Kent Womack
Journal of Financial and Quantitative Analysis, forthcoming
Abstract:
There are significant differences among sell-side analysts in how frequently they revise recommendations. We show that much of this variation is an analyst-individual trait. Analysts who change recommendations more slowly make recommendations that are more influential and generate better portfolio returns. Slower-revising analysts tend to change recommendations following corporate news that are harder to interpret by non-stock experts, and our evidence suggests that their investment value derives from their ability to better interpret hard-to-assess information. On average, analysts change recommendations less frequently as their career progresses; however, recommendation speed-style is the dominant predictor of their recommendation value.
Mismarking in Mutual Funds
Vladimir Atanasov, John Merrick & Philipp Schuster
Management Science, forthcoming
Abstract:
We study mismarking of newly purchased odd lot and two classes of round lot structured product positions in mutual funds. Such mismarking artificially inflates net asset values and overstates cumulative returns. Applied to funds launched after January 2010, a simulation-tested mismarking fund filter identifies 12 Highly Questionable funds managing $75 billion. The performance of these funds matches closely the predicted pattern of mismarking: extremely high alpha and skewness, particularly immediately after launch. We show that structured product mismarking can seriously inflate return-since-inception metrics. We also provide evidence consistent with return smoothing for one quarter of the sample structured product funds. The inflated performance metrics benefit fund managers through significantly higher Sharpe ratios, Morningstar ratings, and asset growth but cause material losses to later investor cohorts.
Individual differences in susceptibility to financial bullshit
Mario Kienzler, Daniel Västfjäll & Gustav Tinghög
Journal of Behavioral and Experimental Finance, forthcoming
Abstract:
What is the effect of seemingly impressive verbal financial assertions that are presented as true and meaningful but are actually meaningless; that is, financial pseudo-profound bullshit? We develop and validate a novel measurement scale to assess consumers’ ability to detect and distinguish financial bullshit. We show that this financial bullshit scale captures a unique construct that is only moderately correlated with related constructs such as financial knowledge and cognitive abilities. Consumers particularly vulnerable to financial bullshit are more likely to be young, male, have a higher income, and be overconfident with regards to their own financial knowledge. The ability to detect and distinguish financial bullshit also predicts financial well-being while being less predictive of consumers’ self-reported financial behavior, suggesting that susceptibility to financial bullshit is linked to affective rather than behavioral reactions. Our findings have implications for the understanding of how financial communication impacts consumer decision making and financial well-being.