nep-cfn New Economics Papers
on Corporate Finance
Issue of 2010‒08‒14
five papers chosen by
Zelia Serrasqueiro
University of the Beira Interior

  1. Information uncertainty and the reaction of stock prices to news By Paolo Angelini; Giovanni Guazzarotti
  2. Debt restructuring and the role of lending technologies By Giacinto Micucci; Paola Rossi
  3. The effect of age on portfolio choices: evidence form an Italian pension fund By Giuseppe Cappelletti; Giovanni Guazzarotti; Pietro Tommasino
  4. Testing Weak Form Efficiency on the Toronto Stock Exchange. By Vitali Alexeev; Francis Tapon
  5. The misconception of the option value of deposit insurance and the efficacy of non-risk-based capital requirements in the literature on bank capital regulation By Paolo Fegatelli

  1. By: Paolo Angelini (Bank of Italy); Giovanni Guazzarotti (Bank of Italy)
    Abstract: Recent theoretical papers suggest that high uncertainty about firms’ economic prospects can explain delays in the adjustment of their stock prices to economic news. Using analyst forecast revisions and earnings announcements as proxies of news, we find mixed evidence in support of this hypothesis. We confirm that stocks of firms whose prospects are highly uncertain display a relatively large delayed price reaction (so-called continuation) after the release of news, but we argue that this evidence does not necessarily imply a slower adjustment speed. Indeed, for these stocks the immediate reaction to news is also relatively strong. In fact, the magnitude of the delayed price reaction (the price continuation) depends both on the degree of price sluggishness and on the “scale” of the news hitting the stock. We therefore consider both the delayed and immediate responses, and compute measures of adjustment speed that do not depend on the “scale” of the news. We then compare these measures across portfolios of stocks characterized by different degrees of uncertainty. Our findings indicate that: (i) stock prices characterized by high uncertainty tend to adjust to bad news more sluggishly than those characterized by low uncertainty; (ii) the opposite holds true in the case of good news; (iii) stock prices characterized by high uncertainty tend to adjust to bad news more sluggishly than to good news. Previous empirical literature focuses on price continuation patterns but neglects to control for the “scale” of the news, reaching erroneous conclusions.
    Keywords: stock price continuation, price adjustment speed, news, earnings announcements, analysts forecasts, post-earnings announcement drift, post-analyst forecast revisions drift, managers incentives
    JEL: G11 G14
    Date: 2010–07
  2. By: Giacinto Micucci (Bank of Italy); Paola Rossi (Bank of Italy)
    Abstract: The literature on debt restructuring usually assumes that banks behave in a uniform way towards firms in distress. Using a recent survey of Italian banks, we show that banks follow different strategies when they decide whether to take part in the workout process, in that some of them do restructure their debt claims towards small and medium-sized enterprises in distress, while others do not. We explain this heterogeneity by considering the role of banksÂ’ internal organization and lending technologies, which the literature has shown to be strictly tied to the type of relationship developed with the borrower (transactional versus relationship lending). We find that the probability of debt restructuring is higher when the bank: i) is geographically closer to borrowing firms; ii) relies more on soft than hard information; and iii) adopts a decentralized structure with more power allocated to local managers. However there are important complementarities among organizational variables: the adoption of credit scoring increases the likelihood of restructuring if banks also use these techniques systematically in the monitoring process and if they adopt more decentralized structures. Bank size per se is not able to fully explain this heterogeneous behaviour, as organizational forms and lending technologies may also have important consequences on bank decisions.
    Keywords: financial distress, debt restructuring, small and medium-sized enterprises (SMEs), bank heterogeneity, bank organization, lending technologies.
    JEL: G21 G33 L2 O3
    Date: 2010–06
  3. By: Giuseppe Cappelletti (Bank of Italy); Giovanni Guazzarotti (Bank of Italy); Pietro Tommasino (Bank of Italy)
    Abstract: Optimal Portfolio Theory prescribes that investors reduce their exposure to financial market risk as they get near to retirement. To assess the effect of ageing on portfolio choices, we study the case of an Italian defined contribution pension fund during the period 2002-08. We find that on average the willingness to hold risky assets does indeed significantly decrease with age, but we also document that inertial behaviour is quite widespread, and can be very costly.
    Keywords: pension funds, portfolio choice
    JEL: G21 G23
    Date: 2010–07
  4. By: Vitali Alexeev (Department of Economics, University of Guelph, Canada.); Francis Tapon (Department of Economics, University of Guelph, Canada.)
    Abstract: We believe that in order to test for weak form efficiency in the market a vast pool of individual stocks must be analyzed rather than a stock market index. In this paper, we use a model-based bootstrap to generate a series of simulated trials and apply a modified chart pattern recognition algorithm to all stocks listed on the Toronto Stock Exchange (TSX). We compare the number of patterns detected in the original price series with the number of patterns found in the simulated series. By simulating the price path we eliminate specific time dependencies present in real data, making price changes purely random. Patterns, if consistently identified, carry information which adds value to the investment process, however, this informativeness does not guarantee profitability. We draw conclusions on the relative efficiency of some sectors of the economy. Although, we fail to reject the null hypothesis of weak form efficiency on the TSX, some sectors of the Canadian economy appear to be less efficient than others. In addition, we find negative dependency of pattern frequencies on the two moments of return distributions, variance and kurtosis.
    Keywords: Market efficiency, weak form market efficiency, Canada, Toronto Stock Exchange
    JEL: G14 C22
    Date: 2010
  5. By: Paolo Fegatelli
    Abstract: This study shows how the misconception of the option value of deposit insurance by Merton (1977) and its later misuse by Keeley and Furlong (1990), among others, have led some literature supporting the adoption of binding non-risk-based capital requirements to derive incorrect conclusions about their efficacy. This study further shows that what Merton defines as the option value of deposit insurance is actually a component of a bank?s limited liability option under a third-party deposit guarantee. As such, it is already included in the value of the bank?s equity capital, and the flawed definition makes the Keeley-Furlong model internally incoherent.
    Keywords: Capital requirements, Credit risk, Deposit insurance, Prudential regulation, Portfolio approach
    JEL: G21 G28 G11
    Date: 2010–07

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