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on Corporate Finance |
| By: | Nicolae B. Garleanu; Lasse H. Pedersen |
| Abstract: | This paper provides a model of the interaction between risk-management practices and market liquidity. On one hand, tighter risk management reduces the maximum position an institution can take, thus the amount of liquidity it can offer to the market. On the other hand, risk managers can take into account that lower liquidity amplifies the effective risk of a position by lengthening the time it takes to sell it. The main result of the paper is that a feedback effect can arise: tighter risk management reduces liquidity, which in turn leads to tighter risk management, etc. This can help explain sudden drops in liquidity and, since liquidity is priced, in prices in connection with increased volatility or decreased risk-bearing capacity. |
| JEL: | G10 |
| Date: | 2007–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:12887&r=cfn |
| By: | Marsh , Ian W (Cass Business School, London, and Bank of Finland) |
| Abstract: | Although innovative credit risk transfer techniques help to allocate risk more optimally, policymakers worry that they may detrimentally affect the effort spent by financial intermediaries in screening and mo-nitoring credit exposures. This paper examines the equity market’s response to loan announcements. In common with the literature it reports a significantly positive average excess return – the well known ‘bank certification’ effect. However, if the lending bank is known to actively manage its credit risk ex-posure through large-scale securitization programmes, the magnitude of the effect falls by two thirds. The equity market does not appear to place any value on news of loans extended by banks that are known to transfer credit risk off their books. |
| Keywords: | bank loans; credit derivatives; bank certification |
| JEL: | G12 G21 |
| Date: | 2006–12–12 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2006_031&r=cfn |
| By: | Benjamin E. Hermalin; Michael S. Weisbach |
| Abstract: | An objective of many proposed corporate governance reforms is increased transparency. This goal has been relatively uncontroversial, as most observers believe increased transparency to be unambiguously good. We argue that, from a corporate governance perspective, there are likely to be both costs and benefits to increased transparency, leading to an optimum level beyond which increasing transparency lowers profits. This result holds even when there is no direct cost of increasing transparency and no issue of revealing information to regulators or product-market rivals. We show that reforms that seek to increase transparency can reduce firm profits, raise executive compensation, and inefficiently increase the rate of CEO turnover. We further consider the possibility that executives will take actions to distort information. We show that executives could have incentives, due to career concerns, to increase transparency and that increases in penalties for distorting information can be profit reducing. |
| JEL: | G32 G38 M41 |
| Date: | 2007–01 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:12875&r=cfn |
| By: | Alessandra Bonfiglioli |
| Abstract: | This paper studies the relationship between investor protection, financial risk sharing and income inequality. In the presence of market frictions, better protection makes investors more willing to take on entrepreneurial risk while lending to firms. This implies lower cost of external finance and better risk sharing between financiers and entrepreneurs. Investor protection, by boosting the market for risk sharing plays the twofold role of encouraging agents to undertake risky enterprises and providing them with insurance. By increasing the number of risky projects, it raises income inequality. By extending insurance to more agents, it reduces it. As a result, the relationship between the size of the market for risk sharing and income inequality is hump-shaped. Empirical evidence from a cross-section of sixty-eight countries, and a panel of fifty countries over the period 1976-2000, supports the predictions of the model. |
| Keywords: | Income inequality, stock market development, financial development, capital market frictions, investor protection |
| JEL: | D31 E44 G30 O15 O16 |
| Date: | 2007–01–29 |
| URL: | http://d.repec.org/n?u=RePEc:aub:autbar:679.07&r=cfn |
| By: | Mark Mitchell; Lasse Heje Pedersen; Todd Pulvino |
| Abstract: | We study three cases in which specialized arbitrageurs lost significant amounts of capital and, as a result, became liquidity demanders rather than providers. The effects on security markets were large and persistent: Prices dropped relative to fundamentals and the rebound took months. While multi-strategy hedge funds who were not capital constrained increased their positions, a large fraction of these funds actually acted as net sellers consistent with the view that information barriers within a firm (not just relative to outside investors) can lead to capital constraints for trading desks with mark-to-market losses. Our findings suggest that real world frictions impede arbitrage capital. |
| JEL: | G1 G12 G14 |
| Date: | 2007–01 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:12877&r=cfn |
| By: | Pol Antras; Mihir A. Desai; C. Fritz Foley |
| Abstract: | This paper examines how costly financial contracting and weak investor protection influence the cross-border operational, financing and investment decisions of firms. We develop a model in which product developers have a comparative advantage in monitoring the deployment of their technology abroad. The paper demonstrates that when firms want to exploit technologies abroad, multinational firm (MNC) activity and foreign direct investment (FDI) flows arise endogenously when monitoring is nonverifiable and financial frictions exist. The mechanism generating MNC activity is not the risk of technological expropriation by local partners but the demands of external funders who require MNC participation to ensure value maximization by local entrepreneurs. The model demonstrates that weak investor protections limit the scale of multinational firm activity, increase the reliance on FDI flows and alter the decision to deploy technology through FDI as opposed to arm's length licensing. Several distinctive predictions for the impact of weak investor protection on MNC activity and FDI flows are tested and confirmed using firm-level data. |
| JEL: | F21 F23 G32 L24 |
| Date: | 2007–01 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:12855&r=cfn |
| By: | Narasimhan Jegadeesh; Woojin Kim |
| Abstract: | This paper develops and implements a new test to investigate whether sell-side analysts herd around the consensus when they make stock recommendations. Our empirical results support the herding hypothesis. Stock price reactions following recommendation revisions are stronger when the new recommendation is away from the consensus than when it is closer to it, indicating that the market recognizes analysts' tendency to herd. We find that analysts from larger brokerages and analysts following stocks with smaller dispersion across recommendations are more likely to herd. |
| JEL: | G14 G24 |
| Date: | 2007–01 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:12866&r=cfn |
| By: | Alexander Dyck; Adair Morse; Luigi Zingales |
| Abstract: | What external control mechanisms are most effective in detecting corporate fraud? To address this question we study in depth all reported cases of corporate fraud in companies with more than 750 million dollars in assets between 1996 and 2004. We find that fraud detection does not rely on one single mechanism, but on a wide range of, often improbable, actors. Only 6% of the frauds are revealed by the SEC and 14% by the auditors. More important monitors are media (14%), industry regulators (16%), and employees (19%). Before SOX, only 35% of the cases were discovered by actors with an explicit mandate. After SOX, the performance of mandated actors improved, but still account for only slightly more than 50% of the cases. We find that monetary incentives for detection in frauds against the government influence detection without increasing frivolous suits, suggesting gains from extending such incentives to corporate fraud more generally. |
| JEL: | G3 |
| Date: | 2007–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:12882&r=cfn |