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RESEARCH PAPERS | CORPORATE FINANCE

Private Firm Financing)

MUTUAL FUND INVESTMENTS IN PRIVATE FIRMS

Sungjoung Kwon, Michelle Lowry, and Yiming Qian
2018
Historically a key advantage of being a public firm was broader access to capital, from a disperse group of shareholders. In recent years, such capital has increasingly become available to private firms as well. We document a dramatic increase over the past twenty years in the number of mutual funds participating in private markets and in the dollar value of these private firm investments. We evaluate several factors that potentially contribute to this trend: firms seeking extra capital to postpone public listing; mutual funds seeking higher risk-adjusted returns and IPO allocations; and, VCs seeking new investors to substantiate higher valuations. Results provide the strongest support for the first two factors. >more


Payout Policy

THE INFORMATION CONTENT OF DIVIDENDS: SAFER PROFITS, NOT HIGHER PROFITS

Roni Michaely, Stefano Rossi, and Michael Weber
2018
Contrary to signaling models’ central predictions, changes in profits do not empirically follow changes in dividends, and firms with the least need to signal pay the bulk of dividends. We show both theoretically and empirically that dividends signal safer, rather than higher, future profits. Using the Campbell (1991) decomposition we find that cash-flow-volatility changes follow dividend and repurchase changes (in opposite direction), and that larger volatility changes come with larger announcement returns consistent with our model's predictions. The data support the prediction that the signaling cost is foregone investment opportunities. We conclude payout policy conveys information about future cash-flow volatility. >more


IPOs and SEOs

DO FIRMS ISSUE MORE EQUITY WHEN MARKETS BECOME MORE LIQUID?

Rogier Hanselaar, René M. Stulz, and Mathijs A. Van Dijk
2017
Using quarterly data on IPOs and SEOs in 38 countries over the period 1995-2014, we show that changes in equity issuance are significantly and positively related to lagged changes in aggregate local market liquidity. This relation is at least as economically significant as the well-known relation between equity issuance and lagged stock returns. It survives the inclusion of proxies for market timing, capital market conditions, growth prospects, asymmetric information, and investor sentiment, as well as the exclusion of the financial crisis. Changes in liquidity are less relevant for firms that face greater financial pressures, firms in less financially developed countries, and during the financial crisis. >more


Firm valuation

WHY ARE FIRMS WITH MORE MANAGERIAL OWNERSHIP WORTH LESS?

Kornelia Fabisik, Rüdiger Fahlenbrach, René M. Stulz, and Jérôme Taillard
2018
Using more than 50,000 firm-years from 1988 to 2015, we show that the empirical relation between a firm’s Tobin’s q and managerial ownership is systematically negative. When we restrict our sample to larger firms as in the prior literature, our findings are consistent with the literature, showing that there is an increasing and concave relation between q and managerial ownership. We show that these seemingly contradictory results are explained by cumulative past performance and liquidity. Better performing firms have more liquid equity, which enables insiders to more easily sell shares after the IPO, and they also have a higher Tobin’s q. >more


Credit Ratings

CREDIT RATINGS AND ACQUISITIONS

Nihat Aktas, Nikolaos Karampatsas, Dimitris Petmezas, and Henri Servaes
2018
There is a curvilinear relation between credit ratings and acquisitions. Non-investment grade firms make more acquisitions as their ratings improve, consistent with the relaxation of financial constraints. However, this pattern reverses for investment grade firms, supporting the view that such firms want to preserve their rating and are concerned about acquisition-related downgrades. Abnormal returns first decrease and then increase as ratings improve. In support of these findings, acquisitions have a negative impact on future ratings only for highly-rated firms. These results indicate that the level of a firm’s credit rating has a significant impact on the acquisition process. >more


Green Bonds

DO SHAREHOLDERS BENEFIT FROM GREEN BONDS?

Dragon Yongjun Tang, and Yupu Zhang
2018
The green bond market has been growing rapidly worldwide since its debut in 2007. We present the first empirical study on the announcement returns and real effects of green bond issuance by firms in 28 countries during 2007-2017. After compiling a comprehensive international green bond dataset, we document that stock prices positively respond to green bond issuance. However, we do not find a significant premium for green bonds, suggesting that the positive stock returns are not driven by the lower cost of debt. Nevertheless, we show that institutional ownership, especially from domestic institutions, increases after the firm issues green bonds. Moreover, stock liquidity significantly improves upon the issuance of green bonds. Overall, our findings suggest that the firm’s issuance of green bonds is beneficial to its existing shareholders. >more


Bank Credit and Innovation

FUEL THE ENGINE: BANK CREDIT AND FIRM INNOVATION

Shusen Qi, and Steven Ongena
2018
Whether bank credit is suitable to finance business innovation is a key financing question. Using a representative sample of 6,422 small firms across 22 emerging economies, we find that lack of access to credit stifles innovation, especially of the technologically “hard” type. Especially access to credit with longer duration and denominated in foreign currency spurs hard innovation. This detrimental impact of credit constraints on innovation activities is stronger in localities or sectors that are more dependent on external financing, and only holds for firms that are more limited in alternative sources of external financing, including small, private, or unaudited firms, receiving no government subsidy. We further found that institutional contexts can mitigate the negative impact of credit constraints, possibly via providing firms with more alternative financing means. Foreign or transactional banks, or banks in more diversified banking market are found to be better at promoting firm innovation. Lastly, bank credit enabling hard innovation is expected to foster future firm growth. >more


Dividend Policy

DO DIVIDENDS CONVEY INFORMATION ABOUT FUTURE EARNINGS?

Charles (Chad) Ham, Zachary Kaplan, and Mark T. Leary
2018
In contrast to the literature’s current consensus, we show that dividends contain highly persistent information about future earnings levels. Using an “event window” approach that compares earnings after dividend changes to those before, we find dividend changes predict unexpected future earnings for horizons up to three years. The attenuation in earnings information noted by prior studies disappears after controlling for (i) endogenous investment and asset write-downs accompanying dividend changes and (ii) the non-linear relation between dividend changes and market reactions. Our results suggest the market reaction to dividend change announcements reflects, at least in part, new information about future earnings. >more


Investment Policy

CREDIT DEFAULT SWAPS AROUND THE WORLD: INVESTMENT AND FINANCING EFFECTS

Söhnke M. Bartram, Jennifer S. Conrad, Jongsub Lee, and Marti G. Subrahmanyam
2018
We analyze the impact of the introduction of credit default swaps (CDS) on real decision making within the firm, taking into consideration differences in firms’ local economic and legal environments. We extend the model of Bolton and Oehmke (2011) to take into account uncertainty whether the actions taken by the reference entity will trigger credit events for the CDS obligations. We test the predictions of the model in a sample of more than 56,000 firms across 50 countries over the period 2001–2015 and find substantial evidence that the introduction of CDS affects real decisions within the firm, including those regarding leverage, investment, and the riskiness of the firm’s investments. Importantly, we find that the legal and market environments in which the reference entity operates have an influence on the impact of CDS. The effect of CDS is larger in environments where uncertainty regarding CDS obligations is reduced and where CDS mitigate weak property rights. Our results shed light on the incomplete nature of CDS contracts in international capital markets, related to significant legal uncertainty surrounding the interpretation of underlying credit events. >more


Costs of Leverage

DOES CORPORATE SOCIAL RESPONSIBILITY REDUCE THE COSTS OF HIGH LEVERAGE? EVIDENCE FROM CAPITAL STRUCTURE AND PRODUCT MARKETS INTERACTIONS

Kee-Hong Bae, Sadok El Ghoul, Omrane Guedhami, Chuck C.Y. Kwok, and Ying Zheng
2018
Research on capital structure and product markets interactions shows that high leverage is associated with substantial losses in market share due to unfavorable actions by customers and competitors. We examine whether corporate social responsibility (CSR) affects firms’ interactions with customers and competitors and reduces the costs of high leverage. We find that CSR reduces losses in market share when firms are highly leveraged. By reducing adverse behavior by customers and competitors, CSR helps highly leveraged firms keep customers and guard against rival predation. Our results support the stakeholder value maximization view of CSR. >more


Financial Distress

FORGIVE BUT NOT FORGET: THE BEHAVIOR OF RELATIONSHIP BANKS WHEN FIRMS ARE IN DISTRESS

Larissa Schäfer
2018
Do relationship banks help firms in distress? Combining a survey-based measure of relationship lending with unique credit registry data, I examine the effect of relationship lending on loan performance. I find that the same firm in the same time period is more likely to become delinquent on a relationship-based loan relative to a transaction-based loan. Higher delinquencies do not, however, result in more defaults or less loan recoveries for relationship banks when loans mature relative to transactional banks. Conditional on past delinquencies, relationship banks are more likely to offer follow-up financing and extract rents. Consistent with theory, relationship banks tolerate temporarily bad results, yet extract rents and secure future business in return. The paper provides new empirical evidence for rent extraction by relationship banks that have been lenient to distressed firms in the past. >more


External Financing Costs

DOES POLITICAL UNCERTAINTY INCREASE EXTERNAL FINANCING COSTS? MEASURING THE ELECTORAL PREMIUM IN SYNDICATED LENDING

Olivia Kim
2018
This paper examines a contractual lending channel through which political uncertainty matters in a large sample of syndicated loans involving 63 borrower and 35 lender countries between 1990 and 2008. To address the endogenous nature of political uncertainty and simultaneity of credit demand and supply, I use a within-firm estimation approach that exploits differences in lenders’ exposure to national elections around the world as a source of plausibly exogenous time-series variation in political uncertainty. I document that firms pay on average 7 basis points more on loans originated when their lenders are undergoing a national election relative to when their lenders are not undergoing a national election. Consistent with electoral uncertainty driving this premium, the most contested elections have the largest impact (17 bps). Lenders from less financially developed countries are more likely to pass-through political uncertainty costs to borrowers, especially to those from weak creditor rights countries. Overall, political uncertainty leads to a tangible increase in firms’ financing costs. >more


Covenants

BANK INTERVENTIONS AND TRADE CREDIT: EVIDENCE FROM DEBT COVENANT VIOLATIONS

Zilong Zhang
2018
This study examines the consequences of conflicts between creditors. Using the setting of debt covenant violations, I employ a regression discontinuity design to identify the effect of bank interventions on their borrowers' trade credit. The results show that trade credit experiences a substantial decline when banks intervene in the borrowing firm following covenant violations. The decline is mitigated by the presence of dependent suppliers and exacerbated by banks' incentives to exercise control rights. Such externalities are reflected in the loan contract design. Borrowing firms sign less restrictive loan contracts when they rely more on trade credit or trade creditors. >more


Cost of Capital

BIG DATA IN FINANCE AND THE GROWTH OF LARGE FIRMS

Juliane Begenau, Maryam Farboodi, and Laura Veldkamp
2018
One of the most important trends in modern macroeconomics is the shift from small firms to large firms. At the same time, financial markets have been transformed by advances in information technology. We explore the hypothesis that the use of big data in financial markets has lowered the cost of capital for large firms, relative to small ones, enabling large firms to grow larger. Large firms, with more economic activity and a longer firm history offer more data to process. As faster processors crunch ever more data – macro announcements, earnings statements, competitors' performance metrics, export demand, etc. – large firms become more valuable targets for this data analysis. Once processed, that data can better forecast firm value, reduce the risk of equity investment, and thus reduce the firm's cost of capital. As big data technology improves, large firms attract a more than proportional share of the data processing, enabling large firms to invest cheaply and grow larger. >more


Fintech Lending

FINTECH, REGULATORY ARBITRAGE, AND THE RISE OF SHADOW BANKS

Greg Buchak, Gregor Matvos, Tomasz Piskorski, and Amit Seru
2017
Shadow bank market share in residential mortgage origination nearly doubled from 2007-2015, with particularly dramatic growth among online “fintech” lenders. We study how two forces, regulatory differences and technological advantages, contributed to this growth. Difference in difference tests exploiting geographical heterogeneity induced by four specific increases in regulatory burden – capital requirements, mortgage servicing rights, mortgage-related lawsuits, and the movement of supervision to Office of Comptroller and Currency following closure of the Office of Thrift Supervision - all reveal that traditional banks contracted in markets where they faced more regulatory constraints; shadow banks partially filled these gaps. Fintech lenders appear to offer a higher quality product and charge a premium of 14-16 basis points. Relative to other lenders, they seem to use different information to set interest rates. A quantitative model of mortgage lending suggests that regulation accounts for roughly 60% of shadow bank growth, while technology accounts for roughly 30%. >more


Trade Credit

TRADE CREDIT AND SUPPLIER COMPETITION

Jiri Chod, Evgeny Lyandres, and S. Alex Yang
2018
This paper examines how competition among suppliers affects their willingness to provide trade credit financing. Trade credit extended by a supplier to a cash constrained retailer allows the latter to increase cash purchases from its other suppliers, leading to a free rider problem. A supplier that represents a smaller share of the retailer's purchases internalizes a smaller part of the benefit from increased spending by the retailer and, as a result, extends less trade credit relative to its sales. In consequence, retailers with dispersed suppliers obtain less trade credit than those whose suppliers are more concentrated. The free rider problem is especially detrimental to a trade creditor when the free-riding suppliers are its product market competitors, leading to a negative relation between product substitutability among suppliers to a given retailer and trade credit that the former provide to the latter. >more


Cash Holdings

HOW DO CHIEF FINANCIAL OFFICERS AFFECT CORPORATE CASH POLICIES?

Chris Florackis, and Sushil Sainani
2017
This paper examines the extent to which Chief Financial Officers (CFOs) affect corporate cash holding policies. We construct an index (CFO index) that enables us to distinguish between "strong'' and "weak'' CFOs based on their ability to influence firm outcomes. We find that firms with strong CFOs hold substantially less cash than firms with weak CFOs, ceteris paribus. Importantly, the CFO effect documented in our study goes beyond the effect caused by the Chief Executive Officer (CEO) on cash holdings. Our findings provide the first direct empirical evidence that firms with strong CFOs are well positioned to hold less cash due to their relatively weak precautionary motive and superior ability to raise external financing during periods of financial stress. >more


Unicorns

THE RACE OF UNICORNS: STARTUP ACQUISITIONS BEFORE IPO TO SIGNAL COMPANY QUALITY

Xuelin Li
2018
The merger and acquisition activity of startups prior to IPO is a neglected but important phenomenon. On one hand, more startups end up being acquired than going public. On the other hand, successful startups engage in frequent M&As. This paper argues that good startups could signal their quality to IPO investors by taking over their inferior competitors. However, bad startups may resist selling because there is a chance to pool with good types in IPO when investors have confusions of firm qualities. By formalizing a race of unicorns with dynamics adverse selection, I characterize the equilibrium outcomes into three regions: IPO wave, M&A and waiting zone. >more


IPO Underpricing

PUBLIC MARKET PLAYERS IN THE PRIVATE WORLD: IMPLICATIONS FOR THE GOING-PUBLIC PROCESS

Shiyang Huang, Yifei Mao, Cong (Roman) Wang, and Dexin Zhou
2018
Recent years have seen a dramatic increase in investment by public market institutional investors in the private market. We study the consequences of these investments for the initial public offerings of startups. We argue that because institutions are able to substitute for all-star analysts in the secondary market, startups rely less on underwriters with all-star analysts, leading to less IPO underpricing. We find that: (1) institutional participation in startups reduces IPO underpricing; (2) there is a substitution between institutions and all-star analysts in IPO underpricing. We use the 2003 mutual fund scandal as an exogenous shock to establish the causality. >more


Liquidity Provision for Bonds

THE COST OF IMMEDIACY FOR CORPORATE BONDS

Jens Dick-Nielsen, and Marco Rossi
2018
Liquidity provision for corporate bonds has become significantly more expensive after the 2008 crisis. Using index exclusions as a natural experiment during which uninformed index trackers request immediacy, we find that the cost of immediacy has more than doubled. In addition, the supply of immediacy has become more elastic with respect to its price. Consistent with a stringent regulatory environment incentivizing smaller dealer inventories, we also find that dealers revert deviations from their target inventory more quickly after the crisis. Finally, we investigate the pricing impact of information, changes in ownership structure, and differences between bank and non-bank dealers. >more


Debt Maturities

CORPORATE DEBT MATURITY PROFILES

Jaewon Choi, Dirk Hackbarth, and Josef Zechner
2017
We study a novel aspect of a firm's capital structure, namely the profile of its debt maturity dates. In a simple theoretical framework we show that the dispersion of debt maturities constitutes an important dimension of capital structure choice, driven by firm characteristics and debt rollover risk. Guided by these predictions we establish two main empirical results. First, using an exogenous shock to rollover risk, we document a significant increase in maturity dispersion for firms that need to roll over maturing debt. Second, we find strong support that maturities of newly issued debt are influenced by pre-existing maturity profiles. >more


Internal Capital Markets

THE ORIGINS AND REAL EFFECTS OF THE GENDER GAP: EVIDENCE FROM CEOS' FORMATIVE YEARS

Ran Duchin, Mikhail Simutin, and Denis Sosyura
2018
CEOs allocate more investment capital to male managers than to female managers in the same divisions. Using data from individual Census records, we find that this gender gap is driven by CEOs who grew up in male-dominated families — those where the father was the only income earner and had more education than the mother. The gender gap also increases for CEOs who attended all-male high schools and grew up in neighborhoods with greater gender inequality. The effect of gender on capital budgeting introduces frictions and erodes investment efficiency. Overall, the gender gap originates in CEO preferences developed during formative years and produces significant real effects. >more


Bankruptcy

BUSY BANKRUPTCY COURTS AND THE COST OF CREDIT

Karsten Müller
2018
How large are the welfare losses from inefficient legal enforcement? This paper studies the effect of judicial efficiency in the context of credit contracts in the United States. Using the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 as an exogenous shock to the caseload of bankruptcy courts, I show that debt enforcement is a quantitatively important factor for credit spreads and contract maturities. Consistent with higher expected recovery values for creditors, the effect is driven by firms with higher bankruptcy risk and lower expected liquidation values. The estimates imply a lower bound for the US-wide costs of bankruptcy court backlog of around $670 million per year and fiscal multipliers for new bankruptcy judges of above 100. This approach also uncovers the bankruptcy districts with the highest social returns on new judgeships. >more


Investor Horizons

CORPORATE ESG PROFILES AND INVESTOR HORIZONS

Laura T. Starks, Parth Venkat, and Qifei Zhu
2017
Questions and debate surround institutional investor preferences regarding the Environmental, Social and Governance (ESG) profiles of their portfolio firms. To address these issues, we examine changes in their portfolios and find that preferences for corporate ESG depend critically on investor horizons: Investors with longer horizons tend to prefer higher-ESG firms, while short-term investors prefer the opposite. Consistent with the importance of horizon, we find that investors behave more patiently toward high ESG firms, selling less after negative earnings surprises or poor stock returns. We further support these findings using changes in the FTSE4Good Index as shocks to firms' ESG reputations. >more


Underwriter Bargaining Power

UNDERWRITER COMPETITION AND BARGAINING POWER IN THE CORPORATE BOND MARKET

Alberto Manconi, Ekaterina Neretina, and Luc Renneboog
2018
We develop a new measure of underwriter bargaining power and a novel empirical approach, based on underwriters’ comparative ability to place bonds. When an issuer has few “outside options” to take her bond to the market, the underwriter enjoys a stronger bargaining power over her. The key feature of our approach is that bargaining power varies for a given underwriter at a given point in time across different issuers, allowing us to separate the effects of bargaining power from those of reputation and certification with a fixed effects strategy. Using our measure, we document that powerful underwriters are able to extract rents at the expense of bond issuers. For issues with the highest underwriter bargaining power, fees and bond offering yields increase by a combined cost of USD 1.5 million, or about 7% of the average costs for the issuer. We rule out alternative mechanisms based on issuer-underwriter “loyalty”. Our findings suggest that lack of competition increases underwriter bargaining power, resulting in material costs for corporate bond issuers. >more


Access to Informal Financing

CORPORATE RESILIENCE TO BANKING CRISES: THE ROLES OF TRUST AND TRADE CREDIT

Ross Levine, Chen Lin, and Wensi Xie
2017
Are firms more resilient to systemic banking crises in economies with higher levels of social trust? Using firm-level data in 34 countries from 1990 through 2011, we find that liquidity-dependent firms in high-trust countries obtain more trade credit and suffer smaller drops in profits and employment during banking crises than similar firms in low-trust economies. The results are consistent with the view that when banking crises block the normal banking-lending channel, greater social trust facilitates access to informal finance, cushioning the effects of these crises on corporate profits and employment. >more


Cash Savings

CASH SAVINGS AND CAPITAL MARKETS

R. David McLean, and Mengxin Zhao
2018
Previous studies find that U.S. firms make large equity issues when stock prices are high for the purpose of building precautionary cash savings. We find these effects internationally, but only in countries where it is less costly to issue equity. In countries where external finance is costlier, high precautionary motive firms do not build cash with equity issues, suggesting the benefits of building cash via external finance are outweighed by issuance costs. These effects are economically important; the previously documented relation between precautionary motives and cash savings is no longer significant if the proceeds from net equity issues are removed from cash. Our findings show that capital market development has a first order impact on cash policy. >more


Default Prediction Models

FEATURES OF A LIFETIME PD MODEL: EVIDENCE FROM PUBLIC, PRIVATE, AND RATED FIRMS

Sajjad Beygiharchegani, Uliana Makarov, Janet Zhao, and Douglas Dwyer
2018
With the new CECL and IFRS 9 requirements, we see an increased need for lifetime probability of default models. In this document, we formally investigate and summarize the term structure properties consistently seen across public, private, and rated ?rms. We observe that the default rate for “good” ?rms tends to increase over time, while the default rate for “bad” ?rms decreases over time, an indication of the mean-reversion effect seen with ?rms' default risk. >more


Impact of Cyberattacks

WHAT IS THE IMPACT OF SUCCESSFUL CYBERATTACKS ON TARGET FIRMS?

Shinichi Kamiya, Jun-Koo Kang, Jungmin Kim, Andreas Milidonis, and René M. Stulz
2018
We examine which firms are targets of successful cyberattacks and how they are affected. We find that cyberattacks are more likely to occur at larger and more visible firms, more highly valued firms, firms with more intangible assets, and firms with less board attention to risk management. These attacks affect firms adversely when consumer financial information is appropriated, but seem to have little impact otherwise. Attacks where consumer financial information is appropriated are associated with a significant negative stock market reaction, an increase in leverage following greater debt issuance, a deterioration in credit ratings, and an increase in cash flow volatility. These attacks also affect sales growth adversely for large firms and firms in retail industries, and there is evidence that they decrease investment in the short run. Affected firms respond to such attacks by cutting the CEO’s bonus as a fraction of total compensation, by reducing the risk-taking incentives of management, and by taking actions to strengthen their risk management. The evidence is consistent with cyberattacks increasing boards’ assessment of target firm risk exposures and decreasing their risk appetite. >more


Crowdfunding

BEYOND FINANCING: CROWDFUNDING AS AN INFORMATIONAL MECHANISM

Jordana Viotto da Cruz
2016
Besides providing financial support for new ventures, crowdfunding can bring additional advantages for entrepreneurs. In this paper, we test the hypothesis that crowdfunding also serves as an informational mechanism. Using a unique dataset built with publicly available data from Internet-based sources, and after controlling for alternative explanations, we empirically show that even when not successful on crowdfunding, thus not accessing capital, project owners may still decide to release the product in the market if contributions suggest positive valuation of the “crowd”. >more


Bank Capital Structure

THE AGENCY OF COCO: WHY DO BANKS ISSUE CONTINGENT CONVERTIBLE BONDS?

Roman Goncharenko, Steven Ongena, and Asad Rauf
2017
Why do banks issue contingent convertible debt? To answer this question we study comprehensive data covering all issues by publicly traded banks in Europe of contingent convertible bonds (CoCos) that count as additional tier 1 capital (AT1). We find that banks with lower asset volatility are more likely to issue AT1 CoCos than their riskier counterparts, but that CDS spreads do not react following issue announcements. Our estimates therefore suggest that agency costs play a crucial role in banks' ability to successfully issue CoCos. The agency costs may be higher for CoCos than for equity explaining why we observe riskier or lowly capitalized banks to issue equity rather than CoCos. >more


Credit Supply

BANK RESPONSE TO HIGHER CAPITAL REQUIREMENTS: EVIDENCE FROM A QUASI-NATURAL EXPERIMENT

Reint Gropp, Thomas C. Mosk, Steven Ongena, and Carlo Wix
2018
We study the impact of higher capital requirements on banks’ balance sheets and its transmission to the real economy. The 2011 EBA capital exercise is an almost ideal quasi-natural experiment to identify this impact with a difference-in-differences matching estimator. We find that treated banks increase their capital ratios by reducing their risk-weighted assets and - consistent with debt overhang - not by raising their levels of equity. Banks reduce lending to corporate and retail customers, resulting in lower asset-, investment- and sales growth for firms obtaining a larger share of their bank credit from the treated banks. >more


Credit Cycle

LENDING STANDARDS OVER THE CREDIT CYCLE

Giacomo Rodano, Nicolas Andre Benigno Serrano-Velarde, and Emanuele Tarantino
2018
We empirically identify the lending standards applied by banks to small and medium firms over the cycle. We exploit an institutional feature of the Italian credit market that generates a sharp discontinuity in the allocation of comparable firms into credit risk categories. Using loan-level data, we show that during the expansionary phase of the cycle, banks relax lending standards by narrowing the interest rate spreads between substandard and performing firms. During the contractionary phase of the cycle, the abrupt tightening of lending standards leads to the exclusion of substandard firms from credit. These firms then report significantly lower production, investment, and employment. Finally, we find that the drying up of the interbank market is an important factor determining the change in bank lending standards. >more


Bond Default Spreads

THE MYTH OF THE CREDIT SPREAD PUZZLE

Peter Feldhütter, and Stephen M. Schaefer
2018
We ask whether a standard structural model (Black and Cox (1976)) is able to explain credit spreads on corporate bonds and, in contrast to much of the literature, we find that the model matches the level of investment grade spreads well. Model spreads for speculative grade debt are too low and we find that bond illiquidity contributes to this underpricing. Our analysis makes use of a new approach for calibrating the model to historical default rates that leads to much more precise estimates of investment grade default probabilities. >more


Cash Holdings

WHY HAS THE VALUE OF CASH INCREASED OVER TIME?

Thomas W. Bates, Chinghung Chang, and J. Daniel Chi
2017
The value of corporate cash holdings has increased significantly in recent decades. On average, one dollar of cash is valued at $0.61 in the 1980s, $1.04 in the 1990s, and $1.12 in the 2000s. This increase is predominantly driven by the investment opportunity set and cash-flow volatility, as well as secular trends in product market competition, credit market risk, and within-firm diversification. We document a secular decrease in the speed of adjustment in cash holdings, particularly for financially constrained firms with cash deficits, suggesting that capital market frictions can account for the trend in the value of cash holdings. >more


Treasury Market

NOTES ON BONDS: ILLIQUIDITY FEEDBACK DURING THE FINANCIAL CRISIS

David K. Musto, Greg Nini, and Krista Schwarz
2017
We trace the evolution of extreme illiquidity discounts among Treasury securities during the financial crisis, when bond prices fell more than six percent below more-liquid but otherwise identical notes. Using high-resolution data on market quality and trader identities and characteristics, we find that the discounts amplify through feedback loops, where cheaper, less-liquid securities flow to investors with longer horizons, thereby increasing their illiquidity and thus their appeal to these investors. The effect of the widened liquidity gap on transactions costs is further amplified by a surge in the price liquidity providers charge for access to their balance sheets in the crisis. >more


Agency Conflicts

AGENCY CONFLICTS AROUND THE WORLD

Erwan Morellec, Boris Nikolov, and Norman Schürhoff
2017
We use a dynamic model of financing decisions to measure agency conflicts for a large panel of 12,652 firms from 14 countries. Our estimates show that agency conflicts are large and vary significantly across firms and countries. Differences in agency conflicts are largely due to differences in firm-level governance, ownership concentration, and other firm characteristics, including intangibles and cash. The origin of law is more relevant for curtailing governance excesses than for guarding the typical firm. Agency costs split about equally between wealth transfers and value losses from policy distortions, the latter being smaller in civil law countries where ownership is more concentrated.  >more


Reporting Quality

DIRECTOR CONNECTEDNESS: MONITORING EFFICACY AND CAREER PROSPECTS

Vincent Intintoli, Kathleen M. Kahle, and Wanli Zhao
2017
We examine a specific channel through which director connectedness may improve monitoring: financial reporting quality. We find that the connectedness of independent, non-co-opted audit committee members has a positive effect on financial reporting quality and accounting conservatism. The effect is not significant for non-audit committee or co-opted audit committee members. Our results are robust to tests designed to mitigate self-selection. Consistent with connected directors being valuable, the market reacts more negatively to the death of highly connected directors than less connected directors. Better connected directors also have better career prospects, suggesting that they have greater incentives to monitor. >more


Credit Risk Premia

CORPORATE CREDIT RISK PREMIA

Antje Berndt, Rohan Douglas, Darrell Duffie, and Mark Ferguson
2017
We measure credit risk premia---prices for bearing corporate default risk in excess of expected default losses---using Markit CDS and Moody's Analytics EDF data. We find dramatic variation over time in credit risk premia, with peaks in 2002, during the global financial crisis of 2008-09, and in the second half of 2011. Even after normalizing these premia by expected default losses, median credit risk premia fluctuate over time by more than a factor of ten. Credit risk premia comove with macroeconomic indicators, even after controlling for variation in expected default losses, with higher premia per unit of expected loss during times of market-wide distress. Countercyclical variation of premia-to-expected-loss ratios is more pronounced for investment-grade issuers than for high-yield issuers. >more


Exposure to Sovereign Default

THE COSTS OF SOVEREIGN DEFAULT: EVIDENCE FROM THE STOCK MARKET

Sandro C. Andrade, and Vidhi Chhaochharia
2017
We use stock market data to test cross-sectional implications of theories of sovereign default and provide a market-based estimate of sovereign default costs. We find that the stock prices of firms vulnerable to financial intermediation disruption, or firms more exposed to the government, are particularly sensitive to changes in sovereign credit spreads. This is consistent with theories in which default is costly because it disrupts financial intermediation and damages government reputation. Estimation of a structural valuation model indicates that the market prices stocks as if sovereign default has large effects on vulnerable stocks, translating to a 12% destruction of the value of their productive assets. >more


Financial Distress

DESTRUCTIVE CREATION AT WORK: HOW FINANCIAL DISTRESS SPURS ENTREPRENEURSHIP

Tania Babina
2017
Using US Census employer-employee matched data, I show that employer financial distress accelerates the exit of employees to found start-ups. This effect is particularly evident when distressed firms are less able to enforce contracts restricting employee mobility into competing firms. Entrepreneurs exiting financially distressed employers earn higher wages prior to the exit and after founding start-ups, compared to entrepreneurs exiting non-distressed firms. Consistent with distressed firms losing higher-quality workers, their start-ups have higher average employment and payroll growth. The results suggest that the social costs of distress might be lower than the private costs to financially distressed firms. >more


Yield Volatility

DISAGREEMENT ABOUT INFLATION AND THE YIELD CURVE

Paul Ehling, Michael F. Gallmeyer, Christian Heyerdahl-Larsen, and Philipp K. Illeditsch
2017
We show that inflation disagreement, not just expected inflation, has an impact on nominal interest rates. In contrast to expected inflation, which mainly affects the wedge between real and nominal yields, inflation disagreement affects nominal yields predominantly through its impact on the real side of the economy. We show theoretically and empirically that inflation disagreement raises real and nominal yields and their volatilities. Inflation disagreement is positively related to consumers’ cross-sectional consumption growth volatility and trading in fixed income securities. Calibrating our model to disagreement, inflation, and yields reproduces the economically significant impact of inflation disagreement on yield curves. >more


Bond Yields

TOO BIG TO IGNORE? HEDGE FUND FLOWS AND BOND YIELDS

Olga Kolokolova, Ming-Tsung Lin, and Ser-Huang Poon
2017
This paper investigates the information content of aggregate hedge fund flow and its predictive power with respect to bond yields. Using a sample of 9,725 hedge funds from 1994 to 2012, we find that fund flow is negatively related to the changes in 10-year Treasury and Moody's Baa bond yields one month ahead. The relation is still pronounced after controlling for other determinants of yield changes, including the amount of arbitrage capital available in the economy, suggesting a non-trivial effect of flow-induced hedge fund trading on bond yields. Flow impact on corporate bonds is further amplified during periods of decreasing market liquidity, consistent with a fire-sale hypothesis. Hedge fund flow also predicts convergence between constant maturity swap rate and constant maturity Treasury rate, as well as between the TIPS and Treasury bond yields, suggesting that hedge funds exploit arbitrage opportunities in these fixed-income markets. >more