Working Paper Abstracts – 1985
This paper develops and tests two propositions. We demonstrate that there is a monotone relation between the (expected) underpricing of an initial public offering and the uncertainty of investors regarding its value. We also argue that the resulting underpricing equilibrium is enforced by investment bankers, who have reputation capital at stake. An investment banker who “cheats” on this underpricing equilibrium will lose either potential investors (if it doesn’t underprice enough) or issuers (if it underprices too much), and thus forfeit the value of its reputation capital. Empirical evidence supports our propositions.
Our paper examines the daily stock market returns for four foreign countries. We find a so-called “week-end effect” in each country. In addition, the lowest mean returns for the Japanese and Australian stock markets occur on Tuesday.
The remainder of the paper answers four questions. Are seasonals in foreign stock markets independent of the previously reported seasonal in the U.S.? Due to different time zones, do Japan and Australia exhibit a seasonal one day out of phase? Do settlement procedures across countries impact week-end effects? Does the seasonal in foreign exchange offset the week-end effect in stocks for Americans investing overseas?
A new methodology for statistically testing contingent claims asset-pricing models based on asymptotic statistical theory is proposed. It is introduced in the context of the Black-Scholes option pricing model, for which some promising estimation, inference, and simulation results are also presented. The proposed methodology is then extended to arbitrary contingent claims by first considering the estimation problem for general Ito-processes and then deriving the asymptotic distribution of a general contingent claim which depends upon such an Ito-process.
Two of the most widely used statistical techniques for analyzing discrete economic phenomena are discriminant analysis (DA) and logit analysis. For purposes of parameter estimation, logit has been shown to be more robust than DA. However, under certain distributional assumptions both procedures yield consistent estimates and the DA estimator is asymptotically efficient. This suggests a natural Hausman specification test of these distributional assumptions by comparing the two estimators. In this paper, such a test is proposed and an empirical example is provided. The finite-sample properties of the test statistic are also explored through some sampling experiments.
There is often a moral hazard when information is sold since anyone can claim to have superior information. This paper considers feasible and optimal strategies which allow this problem to be overcome, in the context of a standard one-period, two-asset model. It is shown that it is always better for informed people to sell their information rather than to just use it for speculation. However, because of the moral hazard problem the seller cannot obtain the full returns to his information. This provides an incentive for intermediation since an intermediary may be able to capture some of the remaining returns.
This study examines the empirical relation between stock returns and (long-run) dividend yields. The findings show that much of the phenomenon is due to a non-linear relation between dividend yields and returns in January. Regression coefficients on dividend yields, which some models predict should be non-zero due to differential taxation of dividends and capital gains, exhibit a significant January seasonal, even when controlling for size. This finding is significant since there are no provisions in the after-tax asset pricing models that predict the tax differential is more important in January than in other months.
We find that several ex ante observable variables based on asset price levels predict ex post risk premiums on common stocks of NYSE firms of various sizes, long-term bonds of various default risks, and U.S. Government bonds of various maturities. The predictive ability is consistent over the 52-year sample period from 1927 through 1978. Ex post premiums on small-firm stocks and low-grade bonds are more sensitive in January than in the rest of the year to ex ante levels of asset prices, especially prices of small firms. We consider the possibility that the significantly higher January returns on these stocks and bonds are associated in part with increased risk around the turn of the year.
I study the effect of a temporary budget deficit, which is financed in the international capital market, on the exchange rate. First, I show that the exchange rate depreciates both in the short and in the long run if the government finances the deficit by selling debt denominated in foreign currencies to nonresidents. Secondly, I show that the government can prevent an immediate depreciation of the exchange rate by adopting a policy of sterilized intervention; however, the achievement of this short-run exchange rate target implies a long-run depreciation of the real exchange rate.
In this study, a dynamic-optimizing framework is developed in which the interaction between the firm’s real and financial decisions may be examined. The derivation of the objective function is based explicitly on the maximization of shareholder wealth subject to the firm’s cashflow and capital accumulation constraints. By incorporating the financial aspects of investment into a model of optimal capital accumulation, it is shown that changes in “q” may affect the firm’s capital structure as well as its investment policies. Although an increase in q generally implies an increase in investment, its impact upon capital structure is shown to depend upon how the marginal costs of leverage vary with investment. It is also demonstrated that marginal q equals a particular tax-adjusted average q which renders the relation between q and capital structure a testable hypothesis.
A linear duopoly model is used to consider investment and financing decisions. Bankruptcy is assumed to cause a delay in investment which is not costly in itself. However, the imperfect competition in the product market means this delay puts the bankrupt firm at a strategic disadvantage which forces it to either reduce its size or, in most cases, to liquidate. This is costly because the firm loses the profits it would otherwise have obtained. As a result firms use only a limited amount of debt despite the corporate tax advantage it enjoys.
A framework for valuing floating rate notes is developed and used to examine the effects of (1) lags in the coupon averaging formula, (2) special contractual features and (3) default risk. Evidence on a sample of U.S. floaters is presented and indicates that these notes sold at significant discounts over the sample period. We find that while the lag structure in the coupon formulas and the special contractual features make these notes more variable, they are unable to account for the magnitude of the observed discounts. Based on numerical analysis of a valuation model with default, we conclude that the fixed default premium embodied in the coupon formula at the time of issuance of a typical note is inadequate to compensate for the time-varying default premiums demanded by investors, who will treat other corporate short-term paper as close substitutes: the observed discounts are most consistent with this hypothesis.
I study the effect of government spending on the real exchange rate in a model exhibiting complementarily between consumption at different points in time. I show that the standard result of fiscal expansions causing real appreciations may hold, although not always, in this intertemporal framework. I also examine the time series from a cross section of European countries for the period 1970-1982 and find that the standard result is supported by the data. More importantly, I show that increases in government expenditures appear to have been the single most important cause behind the decline of the manufacturing sector in those countries.
This paper evaluates the power of multivariate tests of the Capital Asset Pricing Model. The results indicate that when employing an unspecified alternative hypothesis, the ability of the tests to distinguish between the CAPM and other pricing models is poor. An upperbound is derived for the distance the alternative distribution of the test statistic can be from the null distribution when the deviations from the CAPM are due to missing factors. This upperbound explains the low power of the tests.