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      Department of Finance Research

      Abstract Report 2021

GPA Midstream Research Report

This report presents the economic impact of GPA Midstream members by analyzing survey data collected from the members. The economic impact is calculated using IMPLAN multipliers. Data for 2020 and 2019 are used for the analysis. 

Sponsor: Oklahoma State University

PI/PDs: Betty Simkins, Jin Kun Chai, and Yuri Hupka

 

Enterprise Risk Management: Today’s Leading Research and Best Practices for Tomorrow’s Executives

This book is the only publication of its kind; 43 chapters, combining contributions from leading academics, practitioners, and thought leaders from around the world. This second edition is much enhanced and expanded; while we kept many of the essential chapters from the first edition (such as the history of risk management and how-to chapters on risk workshops and quantitative techniques), over 90% of the content is either updated, rewritten or entirely new. Also included is a forward by Harvard Business School’s Robert Kaplan, who is inarguably one of the most influential business academics, writers and thinkers of our time.

Sponsors: Oklahoma State University,  Hydro One Inc.

PI/PDs: Betty Simkins 

Hydro One Inc.: John Fraser, Rob Quail

 

Political Connections and Short Sellers

Our paper provides a rationale for studies on the market value of political connections by investigating the short sellers' reaction to politically connected firms. We find that political connections of firms deter short sale activity. The deterrence effect can be contributed to the implicit government guarantee (broadly interpreted), including investors' expectation on government intervention and firms' easier access to government resources. Further evidence indicates that informed short sellers are crowded out by political connections, resulting in less informative short volume and less negative (or positive) stock returns for politically connected firms as compared to their non-connected peers.

Sponsors: Oklahoma State University, Central University of Finance and Economics, Pennsylvania State University – Erie

PI/PDs: Betty Simkins 

Central University of Finance and Economics: Yuecheng Jia

Pennsylvania State University – Erie: Hongrui Feng

 

Manager Political Preferences and Company Investor Bases

We investigate how personal political preferences of corporate managers shape the investor base of firms. We find that Republican managers tend to use less leverage, invest heavily in short-run projects, and maintain a high quality of information disclosure which helps these firms achieve greater liquidity. Firms with Republican managers also attract more “transient” institutions. We demonstrate that these relationships are stronger during financially stressful periods. To the best of our knowledge, our paper is the first to examine the relationship between institutional investors and political preferences of corporate managers.

Sponsors: Oklahoma State University,  Northeastern University (China), Zhejiang University, Pennsylvania State University – Erie

PI/PDs: Betty Simkins 

Northeastern University (China): Jian Wang

Zhejiang University: Xingjian Li

Pennsylvania State University – Erie: Hongrui Feng

 

The impact of COVID-19 on SMEs in China: Textual analysis and empirical evidence

This paper investigates the impact of COVID-19 on small and medium-sized firms (SMEs) in China with textual and empirical analyses. We find that most SMEs suffered financially.  The main causes of SMEs’ financial problems are due to postponed work resumption, declining market demand, and restrictions on logistics and crowd flow. We uncover key factors that reduce the negative effects and in some cases benefitted SMEs during the pandemic. Our empirical results also demonstrate that the negative impacts of the pandemic are reduced for value-type firms, state-owned firms, and those situated in cities with high-level digitization.

Sponsors: Oklahoma State University, Beijing Normal University

PI/PDs: Betty Simkins 

Beijing Normal University: Yunchuan Sun, Ziaoping Zeng, Han Zhao, Xuegng Cui

 

The History of Enterprise Risk Management at Hydro One Inc.

The purpose of this article is to record the history of this successful implementation of enterprise risk management (ERM) at Hydro One so that it will benefit other companies and organizations who are at the beginning or in the early part of their ERM journey. In this article, we delve deeper into the dynamics at work and the steps involved in the implementation of ERM. This article is an interview by Betty Simkins with John Fraser and Rob Quail so as to record the challenges, successes, and methods used at Hydro One.

Sponsosr: Oklahoma State University, Hydro One Inc. 

PI/PDs: Betty Simkins 

Hydro One Inc.: John Fraser, Rob Quail

 

Questions That are Asked about Enterprise Risk Management by Risk Practitioner

This article provides questions asked of an experienced chief risk officer and his staff by risk practitioners at many organizations over an 11-year period. Detailed answers based on best practices are provided. This article is important as it shows what areas were of concern

on ERM implementation, and many of these concerns may still apply today. The questions

presented in this article fall in the following ten areas of ERM implementation: background and

context, organizational, getting started, risk identification, culture and engagement, risk criteria, tools and techniques, reporting, the benefits,

and the future of ERM.

Sponsors: Oklahoma State University, Hydro One Inc.  

PI/PDs: Betty Simkins 

Hydro One Inc.: John Fraser, Rob Quail

 

Energy Realities and U.S. Energy Policy

This study discusses six energy realities and the implications for U.S. energy policy:

1) we are not running out of fossil fuels. All energy sources should be promoted and not punished, 2) energy transitions are generally slow and historically have taken up to a century, 3) energy is all about thermodynamics and financial economics, 4) renewable energy sources help but they are just part of the solution, 5) we need to focus on what the science and economics of energy and not let politics impact our judgement, and  6) the public is misinformed about energy. Energy education is a must. 

Sponsor: Oklahoma State University

PI/PD: Betty Simkins 

 

Real Options Evaluation and Decision-Making in Petroleum Exploration and Production

This study establishes a risk-neutral binomial lattice method to apply real options theory to valuation and decision-making in the petroleum exploration and production (E&P) industry under uncertain oil prices. The research is applied to the switching time from primary to water flooding oil recovery. The established real options evaluation framework enhances the valuation and decision-making for petroleum E&P industry including when to switch from one enhanced oil recovery method to another and when to switch from conventional to unconventional hydrocarbon production.

Sponsors: Oklahoma State University, University of Texas

PI/PDs: Betty Simkins, Liying Xu

University of Texas at Austin: Kamy Sephrnoori, Jim S. Dyer

 

The Influence of Major News Events in Causing Outliers for Crude Oil and Natural Gas Commodity Futures Prices

The main goal of this research is to improve our understanding of the impact of major news events in causing outliers in commodity futures prices.  Research to date has been sparse.  On any given day, natural gas futures can have up to 120 risk factors based on each open contract and these risk factors are driven by different news events.  This research studies news around when the major outliers occur, and analyzes what specific types of news events can cause different types of price impacts (outliers) in futures prices.

Sponsors: Oklahoma State University, Texas State University

PI/PDs: Betty Simkins, Joe Byers

Texas State University: Ivilina Popova

 

Does Risk Management Add Value? An Update

This study reviews the literature on corporate risk management by nonfinancial firms and provides a review of the findings to date.  The study discusses the theories and methodologies used and provides suggestions for future research in this area.

Sponsors: Oklahoma State University, University of Oklahoma

PI/PDs: Betty Simkins

University of Oklahoma: Chitru Fernando

 

Susser Petroleum Partners, LP: IPO of a Master Limited Partnership

This case study investigates the 2012 IPO by Susser Holdings to create the first master limited partnership (MLP) in the fuel distribution business.  The case study explores the rationale for the MLP and investigates the valuation of this unique transaction.

Sponsors: Oklahoma State University, University of Texas, Austin, University of Virginia

PI/PDs: Betty Simkins

University of Virginia: Susan Chaplinsky

University of Texas Austin: Sheridan Titman

 

Determinants of NCAA Football Head Coaches’ Salaries

This study examines National Collegiate Athletic Association (NCAA) Football Bowl Subdivision (FBS) head football coach’s contracts to investigate the determinants of both maximum compensation and guaranteed compensation.  The results show that maximum compensation is positively related to both the performance of a university’s football program and the head football coach. 

Sponsors: Oklahoma State University, Valparaiso University, Georgia Tech University

PI/PDs: Betty Simkins

Valparaiso University: Phillip Humphrey

Georgia Tech: Jacqueline Garner

 

Investor Attention and the Neutrality of Corporate Social Responsibility

In this study we investigate the effect of ESG (Environmental, Social and Governance) factors and investor attention on the higher moments of a firm’s stock returns. Our preliminary results show that minimizing exposure to "concern" factors lowers a firm’s exposure to crash risk.

Sponsors: State of Oklahoma, Texas State University

PI/PDs: Betty Simkins

Texas State University: Ivilina Popova

 

The Effect of the COVID-19 Pandemic on the Travel and Tourism Industry

We investigate the effect of COVID-19 related news announcements on the stock of firms in the travel and tourism industry (airlines, cruise lines, hotels, etc.).  We expect that all firms will be affected by the announcements but we test whether market participants differentiated firms by various characteristics, e.g., liquidity, debt levels, etc.

Sponsor: Oklahoma State University

PI/PDs: Eric Sisneros, Sharif Mazumder, David Carter, Betty Simkins

 

Digital Average Price Options (DAPO)

We present an analytical solution for Digital Average Price Options (DAPO). This is an extension of digital options to incorporate average price or Asian price characteristics. We build on work by Zhang (1998), Turnbull and Wakeman (1991), and Haug (2004). We utilize numerical difference methods to calculate the Greeks based on the derived closed-form solution. These options can be used to manage risk or generate income. These products can effectively manager tail risk exposures with one transaction for an energy company who is exposed to multiple types of tail risk, which otherwise would require insuring each event with separate transactions.

Sponsor: Oklahoma State University

PI/Pd: Joe W. Byers

 

How to Bring Rigorous Risk Management to Classroom and Research Projects: Implementing Document Control, Disaster Recovery, and Security Standards for the Academic.

All teachers struggle with security, version control, and disaster recovery of their classroom, research, and administrative documents. The paper will demonstrate that utilizing techniques and technology from FOSS one can protect their documents and intellectual property. The paper show how to version control documents in the cloud, providing disaster recovery at all times, and access from anywhere one has access to the internet. We further demonstrate the security provided by these methods to protect intellectual property and fraud in our virtual age.

Sponsor: Oklahoma State University

PI/Pd: Joe W. Byers

 

Online Exams, an Algorithm for Randomizing Questions to Mitigate the Risk of Fraud.

We provide a proof of concept for algorithms that will mitigate the risk of fraud for online Multiple choice exams with significant probabilities. The algorithm is implement in an open source software Ruby. This algorithm will take standard multiple choice and randomize the questions as different multiple choice and true/false questions that include negative variants of the questions. One simple question with four options including an all of the above will generate questions in terms of four factorial.

Sponsor: Oklahoma State University

PI/Pd: Joe W. Byers

 

Constraints and Boundary Conditions for Real Option Valuation and Risk Management of Commodity Storage using constrained optimization.

This paper extends Byers (2005) and Byers (2006) with further insights on monetizing the a Real Options Commodity Assets with flow constraints. The paper shows how the real asset can be fully hedged using standard liquid derivatives that are openly traded. We effectively build a "box" around the value of the asset. This paper overcomes other valuation and risk management techniques that rely on stochastic modeling and implementing derivatives that do not trade in the market, so all valuation contains bias and error from parameters estimations.

Sponsor: Oklahoma State University

PI/Pd: Joe W. Byers

 

Volatility Persistence or Price Outliers, a Tail of Two Methods?

Volatility persistence is related to the duration of shocks to volatility. These are events that cause a shift in the standard deviation of an asset's returns that decay over time. The duration can be short, medium, long. An alternative explanation is how outliers impact asset returns through the mean of the return process, not the volatility. This will have not volatility persistence for all outlier types but one, the innovative outlier (IO). This paper will investigate the impact of controlling for mean shocks (Outliers) to and the asset return process with respect to past volatility persistence patterns.

Sponsor: Oklahoma State University

PI/Pd: Joe W. Byers

 

Round and Charm Number Pricing of Real Estate

Researchers of stock data have found that prices tend to clump around “round” numbers and more transactions take place on specific digits and, before decimalization, “even eighths.”  Real estate list prices commonly use “charm pricing.”  Allen and Dare (2004, 2006) found that transaction prices of charm listed properties brought more in actual price when compared to equivalent properties without charm listing, thus indicating a possible signaling from seller to buyer.  We extend the investigation of charm pricing by analyzing actual prices for real estate.  We find in the majority of transactions, round numbers, fives and zeros, dominate final transaction prices.
Sponsors: Oklahoma State University, Florida Gulf Coast University
PI/PDs: William Dare
Florida Gulf Coast University: Marcus T. Allen

 

Sports Gambling as an Asset Class

The Supreme Court recently stuck down the Professional and Amateur Sports Protection Act,   creating the possibility of legal sports gambling in the US.  The difference between sports and casino gambling is that in sports gambling; the odds of winning are determined by the individuals; those betting, taking the bets, and all involved. We offer a gambling market efficiency test that evaluates betting strategy returns with the risk return tradeoff; specifically, the S&P 500.  This incorporates the well-known Kelly criterion to reexamine the well-documented bias of NFL games with the tests indicating much less of an inefficiency than previously reported. 

Sponsors: Oklahoma State University, Florida Gulf Coast University

PI/PDs: William Dare

Florida Gulf Coast University: Marcus T. Allen

 

Measuring Institutional Trading Costs and the Implications for Finance Research: The Case of Tick Size Reductions

Abstract: We demonstrate that many widely used liquidity measures do not adequately capture institutional trading costs. Using proprietary data, we construct a price impact measure that better represents the costs faced by institutional investors. We find that price impact is not correlated with many common liquidity proxies. In addition, institutional trading costs are not dramatically impacted by decimalization, casting doubt on the widely used identification strategy that employs decimalization as an exogenous shock to liquidity, particularly institutional liquidity. Indeed, we find that conclusions from prior research are significantly altered when we measure liquidity using institutional trading data.

Sponsor: Oklahoma State University

PI/PD: Gregory Eaton

 

Measuring M&A premiums: Does the Use of Fixed Pre-Merger Event Windows Impart Bias?

Most academic studies use fixed pre-announcement event days (such as -20, -42, or -63) to measure unaffected target-firm stock prices. In this paper, we demonstrate that the use of fixed pre-announcement event days generates downward bias in measured premiums, especially for more recent samples and for transactions with long deal processes (such as target-initiated deals). We take account of this bias by hand-collecting deal initiation dates and demonstrate that using these dates results in measured premiums that give contradictory conclusions to those found in the existing literature. We also offer guidance for measuring M&A premiums if hand-collecting data is impractical.

Sponsor: Oklahoma State University

PI/PD: Gregory Eaton

 

Peer Selection and Valuation in Mergers and Acquisitions

Using unique data, this paper examines investment banks’ choice of peers in comparable companies analysis in mergers and acquisitions. We find strong evidence that product market space is amongst the most important factors in peer selection, but we provide evidence indicating that Standard Industrial Classification (SIC) codes, particularly three- and four-digit codes, do a poor job of categorizing related firms in this setting. Banks strategically select large, high growth peers with high valuation multiples, factors that are also positively related to premiums. Our evidence is consistent with target-firm advisors selecting peers with high valuation multiples to negotiate higher takeover prices.

Sponsor: Oklahoma State University

PI/PD: Gregory Eaton

 

Zero-Commission Individual Investors, High Frequency Traders, and Stock Market Quality

We find that Robinhood ownership changes are unrelated with future returns, suggesting that zero-commission investors behave as noise traders. We exploit Robinhood platform outages to identify the causal effects of commission-free traders on financial markets. Exogenous negative shocks to Robinhood participation are associated with increased market liquidity and lower return volatility among stocks favored by Robinhood investors, as proxied by Reddit WallStreetBets mentions. HFTs with Robinhood order flow arrangements quote narrower lit-market spreads during outages, and market depth order imbalances fall, particularly for stocks with highly autocorrelated order flow, suggesting that zero-commission investors create liquidity-reducing inventory risks for market makers.

Sponsor: Oklahoma State University

PI/PD: Gregory Eaton

 

Portfolio Returns and Consumption Growth Covariation in the Frequency Domain, Real Economic Activity, and Expected Returns

The slope of the portfolio return and consumption growth cospectrum contains predictive information about future real economic activity, future recession probabilities, the risk aversion coefficient, as well as future expected returns.  Commonly used economic variables do not subsume the predictive power of the cospectrum slope and while the interest rate term spread largely failed to predict the Financial Crisis, the cospectrum slope predicted the crisis with a 75% probability.  The cospectrum slope significantly improves the fit of long-horizon expected return models and contains more significant predictive information than the current dividend yield.

Sponsor: Oklahoma State University

PI/PD: Louis R. Piccotti

 

Portfolio Frequency Structure Preferences

I examine the optimal portfolio allocation for investors with risk frequency preferences, which I show maps uniquely to an investor's desired utility function.  As an implication, the portfolio opportunity set can be uniquely constructed from a set of basis utility functions.  Factor model representations represent restrictions on the utility function space, which is equivalent to finding a linear combination of utility functions required to price a portfolio.  A portfolio’s alpha results from the utility function misalignment between the marginal investor and the factor model implied one.

Sponsor: Oklahoma State University

PI/PD: Louis R. Piccotti

 

A Multiscale Estimator for Pricing Errors in High-frequency Financial Markets

For a general Lévy process model in which asset prices are corrupted with microstructure noise, I derive the sampling distributions for the information-related and information-unrelated pricing error parameters as well as for the variance of the true efficient price returns.  The resulting test statistics are standard normally distributed and simulation studies show that they display good properties.  Joint tests as well as tests for time varying parameters follow  distributions.  As an empirical example, the proposed statistical tests are taken to a data sample of exchange rates, commodities, and index futures.

Sponsor: Oklahoma State University

PI/PD: Louis R. Piccotti

 

A Closed-form Solution for Option Prices on Assets with Pricing Errors

This paper examines the effects that pricing errors in the underlying asset have on options prices, their greeks, and their implied risk neutral densities.  Pricing errors can be viewed as a random proportional transaction cost.  When pricing errors are information-unrelated, options prices are unambiguously higher than the Black-Scholes case and increasing in the pricing error variance.  Hedging volatility is higher and the optimal exercise price for American put options is decreased.  The option implied risk-neutral density and option Greeks are materially affected, which leads to suboptimal risk management and hedging without accounting for the pricing errors.

Sponsor: Oklahoma State University

PI/PD: Louis R. Piccotti

 

Are Options Redundant? The Benefits of Synthetic Diversification

We examine an alternative avenue through which trading in options can expand investors’ opportunity sets, unrelated to private information, heterogeneous beliefs, endowments, or trading restrictions in the stock market. Investors can synthetically replicate the return profile of optionable stocks using at-the-money options for a fraction of the cost of holding the underlying securities. When trading costs in the options market are relatively low to those in the stock market, it is optimal for an investor to allocate their portfolio in synthetic stock return positions as opposed to trading in the stock market directly. Conversely, an investor maximizes utility by trading in the stock market when options trading costs are relatively expensive. Sponsor: Oklahoma State University

PI/PDs: Yifan Liu, Louis R. Piccotti

 

Financial Contagion: Bank Characteristics Matter

We systematically examine how bank characteristics are related to a bank’s financial contagion exposure.  Examining capital requirements, we find evidence that while tier 1 capital requirements are negatively related to a bank’s contagion exposure, the sum of tier 1 and tier 2 capital ratios are positively related to it.  Banks with greater financial constraints are less exposed to contagion.  Geographic distance between banks is negatively related to contagion exposures and we find evidence that institutional ownership is positively related to banks’ contagion exposures.  Finally, we find that board attributes that reduce banks’ risk taking incentives negatively associate with financial contagion.

Sponsor: Oklahoma State University

PI/PDs: Sharif Mazumder, Louis R. Piccotti

 

Informed Trading Surrounding Data Breaches in Options Markets

We explore whether there is informed trading surrounding data breach events. By analyzing transactions in the options market, we find two distinct informed trading patterns that begin approximately three and nine months prior to corporate data-breach announcements, which are supported by evidence of higher trading volume and open interest for put options, a higher put-to-call volume ratio, a higher put-to-call open interest ratio, and lower spreads prior to data-breach announcements. Following data-breach announcements, attacked firms’ stocks experience significantly negative CARs of -0.35% within one day. Cross-sectional analysis provides evidence that options trading activity has predictive power for stock returns.

Sponsor: Oklahoma State University

PI/PD: Louis R. Piccotti, Emily (Heng) Wang

 

Covariance Matrix Jumps in High-frequency Financial Markets

This paper examines jumps and cojumps in the covariance matrix for high-frequency financial markets using a new method for identifying intraday volatility jumps in the diffusion covariance matrix. This method avoids model misspecification errors, is able to identify multiple intraday jumps, and provides standard normally distributed test statistics. Performance is tested on Monte-Carlo simulated data as well as tick-by-tick exchange rate data. Initial results indicate the presence of jumps in both price and realized variance,  conditional upon calibration. Additional results are forthcoming.

Sponsor: Oklahoma State University

PI/PDs: Yuri Hupka, Louis R. Piccotti

 

Bond Market Structure and Volatility

We examine price volatility in the bond market using the 24-hour variance ratio methodology. We find that the open-to-open return volatility is on average higher than the close-to-close return volatility. This implies that the market mechanism at open affects the price volatility of the bond market. However, the effect has decreased over time. We find that, in the early 2000s, the return volatility at open is 40 percent larger than at the close. In recent years, however, the volatility is down by half and this implies a better opening procedure of the bond market.

Sponsors: Oklahoma State University, Georgia College

PI/PD: Louis R. Piccotti

Georgia College: Isarin Durongkadej

 

Ambiguity Aversion and Asset Price Dynamics

We derive the equilibrium asset expected returns when there is ambiguity in asset expected returns, as well as ambiguity in asset return variances.  In our model, ambiguity risk is systematic in nature and is non-diversifiable.  Under regularity conditions, expected asset returns are linearly increasing in variance risk and ambiguity risk.  We show that a beta pricing model can be derived from the equilibrium expected return function, which contains a systematic return factor and an ambiguity portfolio return factor, where the ambiguity portfolio weights are determined within the model.  We test our model empirically and we obtain the model-implied results.

Sponsors: Oklahoma State University, Rutgers Business School

PI/PDs: Louis R. Piccotti

Rutgers Business School: Yangru Wu

 

Option-implied Dividends and Expected Returns

This paper examines the relationship between option-implied dividends and expected returns.

Sponsors: Oklahoma State University, Rutgers Business School

PI/PDs: Louis R. Piccotti

Rutgers Business School: Yangru Wu

 

Evaluation of Models of Exchange Rate Determination Using Machine Learning Techniques

This paper uses machine learning methods to re-examine the relationship between exchange rate changes and interest rates.  Attention is given to how the relationship differs between G7 and non-G7 countries.

Sponsors: Oklahoma State University, University at Albany, SUNY

PI/PDs: Louis R. Piccotti

University at Albany, SUNY: Biswas, Rita, Li, Xiao

 

Shareholder Litigation and the Risk Incentive Effect of Executive Compensation:

A Re-examination

Previous literature shows that securities litigation is positively impacted by option compensation with a focus on the delta, but not the vega, component of compensation.  TPrior studies also were disproportionately influenced by the internet bubble period. We argue that the vega, rather than delta, component of option compensation should be associated with litigation propensity.  Using a sample from 1996 to 2018, we document that securities litigation is related to option vega but not to option delta.  Our results are robust to excluding the internet bubble period and to two significant regulatory changes: 1) Sarbanes-Oxley Act, and 2) FAS123R­­ that affected option expensing.

Sponsors: Oklahoma State University, Georgia College and State University, California State University Northridge

PI/PDs: Ramesh P. Rao

Georgia College and State University: Isarin Durongkadej

California State University Northridge: Siqi Wei

 

Does Having Multiple Insiders on Boards Enhance the Effectiveness of Independent Directors?

Regulations as well as shareholder pressures have dramatically changed corporate board structures such that today most corporate boards consist of virtually all independent directors with only one insider, usually the CEO. In this study, we argue that having a sole executive on the board impedes the free flow of information to the outside directors.  We hypothesize and show that the efficacy of independent directors is enhanced in the presence of more than one insider on the board.

Sponsor: Oklahoma State University

PI/PDs: Ramesh P. Rao, Sharif Mazumder

 

The Positive Externalities of Leveraged Buyouts

We show that private equity-sponsored going-private announcements can evoke positive externality effects on their industry peers. It is well-established that “active” ownership of private equity (PE) houses increases competitiveness of target firms by improving their operational strategies and corporate governance. We argue that private equity-sponsored going-private announcements should also impact their industry peers as a result of increased takeover threat and competitive pressure felt by the peers.  Industry peers mitigate the increased takeover threat and competitive pressure by significantly improving their operational efficiency, engaging in long-term innovation and enhancing their corporate governance.

Sponsors: Oklahoma State University, Penn State University-Behrend

PI/PDs: Ramesh P. Rao

Penn State University-Behrend: Harry Feng

 

Does the Threat of Short Selling Discipline Management? Evidence from Default Risk Changes Around Regulation SHO

Using the Securities and Exchange Commission’s Rule 202T pilot program of 2004, Regulation SHO, as a natural experiment this paper examines how the prospect of short selling affects the default risk of a firm.  Consistent with a disciplinary effect of short selling on corporate decisions, we find that firms subject to the pilot program experience a significant decline in their default risk relative to non-pilot firms.  Consistent with a disciplinary effect, we also find that the pilot firms adopt more conservative accounting policy, improve investment efficiency, and enhance the value of their cash holdings compared to non-pilot firms.

Sponsors: Oklahoma State University, Texas A&M University San Antonio, University of North Texas

PI/PDs: Ramesh P. Rao

Texas A&M University San Antonio: Keming Li

University of North Texas: Takeshi Nishikawa

 

Climate Change and Corporate Cash Holdings: Global Evidence

Using data from 41 different countries including the United States, we find that firms increase their cash holdings when exposed to long-term adverse climate change. Our subsample analyses suggest that the increase in cash holdings is more pronounced for the firms with a cash shortfall, and for the firms that are financially constrained. Overall, our findings fit consistently within the precautionary motive framework for holding cash.

Sponsors: Oklahoma State University, University of Texas - Rio Grande Valley, Western Kentucky University

PI/PDs: Ramesh P. Rao

University of Texas - Rio Grande Valley: Abdullah Al Masum, Siamak Javadi

Western Kentucky University: Mohsen Mollagholamali

 

Secondary Market Frictions and Real Firm Activity

We show that secondary market structure and trading activity impacts the cost of issuing new debt. Firms with existing illiquid debt are less likely to issue new debt within a given year, and, when they do, face higher borrowing costs. Using the staggered implementation of TRACE and a regression discontinuity design we also show that improvements in market design and transparency subsequently lowers the cost of debt. Additionally, our results indicate that liquidity and price discovery affect firms’ decisions related to capital structure and investment. Overall, the results provide understanding of the connection between the secondary market and real economy.

Sponsors: Oklahoma State University, University of Tennessee, University of Alabama, Burmingham

PI/PDs: Ryan Davis

University of Tennessee: David Maslar

University of Alabama, Burmingham: Brian Roseman

 

Prospect Theory Preferences During Good Times and Bad

Using a regression discontinuity design and difference-in-difference estimation we show that mutual fund managers’ preference for stocks with Prospect Theory (PT) characteristics is time-varying and increases during fund-specific classifications of hard times. When hard times are common across managers, such as during a recession, these time-varying preferences have asset pricing implications. During downturns, we find that the alpha of Barberis, Mukherjee, and Wang’s (2016) PT characteristic based spread portfolio more than doubles. Rather than behavior biases, we interpret our results in the context of evolutionary psychology which provides a framework for understanding why PT preferences are stronger during hard times.

Sponsors: Oklahoma State University, University of Tennessee, U.S. Securities and Exchange Commission

PI/PDs: Brian Roseman

University of Tennessee: David Maslar

U.S. Securities and Exchange Commission: Peter Dixon

 

Zero-commission individual investors, high frequency traders, and stock market quality

We find that Robinhood ownership changes are unrelated with future returns, suggesting that zero-commission investors behave as noise traders. We exploit Robinhood platform outages to identify the causal effects of commission-free traders on financial markets. Exogenous negative shocks to Robinhood participation are associated with increased market liquidity and lower return volatility among stocks favored by Robinhood investors, as proxied by Reddit WallStreetBets mentions. HFTs with Robinhood order flow arrangements quote narrower lit-market spreads during outages, and market depth order imbalances fall, particularly for stocks with highly autocorrelated order flow, suggesting that zero-commission investors create liquidity-reducing inventory risks for market makers.

Sponsors: Oklahoma State University, Emory University

PI/PDs: Greg Eaton, Clifton Green, Brian Roseman, Yanbin Wu

Oklahoma State University: Greg Eaton, Brian Roseman

Emory University: Clifton Green, Yanbin Wu

 

Passive Informed Trading Around Earnings Announcements

Using a sample of NASDAQ firms, we investigate informed trading in the limit order book prior to earnings announcements. Consistent with recent limit order theory, and in contrast to classic adverse selection models, we show that liquidity improves during periods of asymmetric information, which is attributed to the liquidity supply of informed traders. For earnings announcements with high absolute returns, we find that the quoted spread is low, bid and ask depth is highly correlated, the implied cost to trade is low, and the information-share of the limit order book is high, relative to earnings announcements with low absolute returns.

Sponsors: Oklahoma State University, University of Texas, El Paso

PI/PDs: Brian Roseman

University of Texas, El Paso: Jim Upson

 

Public Information and Stale Limit Orders: The Evidence

In a specialist market public information shocks may generate a sequence of transactions at stale prices, as nimble floor traders pick off obsolete limit orders. We design a test for the importance of public information in price formation around this fact. We find that removing all potentially stale limit order trades from the transactions record has no significant effect on a statistic that links price change to transactions. We use the bootstrap to calibrate this result and demonstrate that public information shocks account for a small portion of stock return variances.

Sponsors: Oklahoma State University, University of Arizona

PI/PDs: Qin (Emma)Wang

University of Arizona: Chris Lamoureux

 

Short Selling Surrounding Data Breaches

This study examines whether short sellers detect firm-level data breaches. First, we document that the level of short selling constraints when data breaches are publicly revealed. The results are robust using propensity score matching (PSM) techniques. Second, short-selling activities predict the cumulative abnormal returns (CARs) around data breaches. Third, the results of event studies report significantly negative CARs around corporate data-breach announcements. Further, we provide evidence that short-selling activities improve market quality and price discovery. Overall, our study provides strong evidence that short sellers exploit prior knowledge of data breaches and help improve overall market quality.

Sponsors: Oklahoma State University, Clarkson University

PI/PDs: Heng (Emily) Wang, Qin (Emma) Wang

Clarkson University: Wentao Wu

 

Local Institutional Investors and Debt Maturity

We examine the relation between the geographic proximity of a firm’s institutional investors and the maturity structure of its debt. We hypothesize and find that firms with local institutional investors have shorter maturity debt. The effect of institutional proximity on debt maturity is stronger for firms with CEO-Chair duality and before the passage of Sarbanes-Oxley Act in 2002, consistent with that firms monitored by local institutional investors choose shorter maturity debt to reduce agency costs, especially, equity agency costs. The results demonstrate the importance of local institutional investors in affecting firms’ debt maturity policy choices.

Sponsor: Oklahoma State University

PI/PDs: Qin (Emma) Wang, Jun Zhang

 

Stock Price Crash Risk and Options Market

This study investigates the interaction between stock price crash risk and options trading. On one hand, informed options trading reduces future stock price crash risk by decreasing bad news hoarding. The negative effect is more pronounced for riskier firms and firms with greater information asymmetry and when the options market is more liquid. On the other hand, stock price crash risk is positively related to future option trading volume and the ratio of put option volume relative to total option volume. Overall results suggest strong interaction between stock price crash risk and the options market.

Sponsor: Oklahoma State University

PI/PDs: Qin (Emma) Wang, Jun Zhang

 

Information Acquisition and Usage of Retail Investors: Evidence from Web Views and Watchlists

We use a novel large data set of Chinese retail investors to study their information acquisition and usage activities. On the one hand, retail investors are more likely to collect information of attention-grabbing stocks, consistent with the view that they are unsophisticated. On the other hand, retail investors appear to utilize information with discretion in making investment decisions, consistent with the view that they have skills. Stocks that are selected more often following information acquisition by retail investors tend to be easier-to-value, have good future news, and earn higher returns even after controlling for stock characteristics

Sponsors:  Oklahoma State University, Central University of Finance and Economics, China

PI/PDs:  Shu Yan

Central University of Finance and Economics: Yuecheng Jia, Hongyu Zhang

 

Stock Market Return Predictability: Evidence from a Decomposition of Dividend Yield

The existing marginally significant evidence for the one-year stock market return predictability by the dividend yield is the result of an error-in-variable problem. A decomposition shows that the trend and innovation components of dividend yield correspond to the expected future long-term and one-year returns, respectively. Robust in-sample and out-of-sample evidence is documented that the innovation provides superior next-year return predictability than the dividend yield, while the trend captures the long-run predictability of dividend yield. The findings are consistent with a time-varying and predictable term structure of expected stock returns.

Sponsor:  Oklahoma State University

PI/PD:  Shu Yan

 

Information Spillover and Cross Predictability of Currency Returns: An Analysis via Machine Learning

This paper adopts OLS--post--LASSO, a machine learning method, to investigate currency cross predictability in the foreign exchange market. The new approach can identify the time--varying most relevant predictors among all available currencies and form accurate out--of--sample forecast. A trading strategy based on the OLS--post--LASSO forecast significantly outperforms the classical trading strategies based on a currency's own forward discount. The evidence is robust to risk adjustments and currency characteristics. The findings lend support to the theories of information spillover in the foreign exchange market.

Sponsors:  State of Oklahoma, Rutgers University, Central University of Finance and Economics, China

PI/PDs:  Shu Yan

Rutgers University: Yangru Wu

Central University of Finance and Economics: Yuecheng Jia, Yuzheng Liu

 

A Seesaw Effect in the Cryptocurrency Market: Understanding the Cross Predictability among Cryptocurrencies

This paper investigates the cross predictability of intraday returns of 22 major cryptocurrencies. In contrast to the well-documented positive lead-lag effect in the equity market, we find a significantly negative lead-lag effect (seesaw effect) in the cryptocurrency market. The five largest coins (Bitcoin, Ripple, Ethereum, Litecoin, and EOScoin) negatively predict other coins but the small coins do not predict the large coins. Trading strategies that exploit the cross predictability yield highly significant profits. Diagnostic analysis indicates that the ``flight to hot large coins" and ``flee from cold large coins'' jointly drive the seesaw effect.

Sponsors:  Oklahoma State University, Rutgers University, Central University of Finance and Economics, China

PI/PDs:  Shu Yan

Rutgers University: Yangru Wu

Central University of Finance and Economics: Yuecheng Jia, Chenxi Yin

 

Profitability Skewness and Stock Return

This paper investigates whether profitability skewness is related to expected stock return. We document significant evidence that profitability skewness positively predicts cross-sectional stock returns, opposite to the negative relation between return skewness and stock returns. The positive return predictability is robust to alternative profitability proxies and holds up to a year. The results cannot be explained by existing risk factors and return predictors including the level of profitability and return skewness. The evidence is consistent with explanations in which profitability skewness is positively related to firm growth opportunity and future profitability. The results are also consistent with behavioral explanations.

Sponsors:  Oklahoma State University, Central University of Finance and Economics, China

PI/PDs:  Shu Yan

Central University of Finance and Economics: Yuecheng Jia

 

Implicit Government Bailout Guarantee and Short Selling of Financial Stocks

This paper documents significant evidence that implicit government bailout guarantees lead to less short selling of financial stocks. The reduction in short selling is more pronounced for firms that are large, distressed, being in the TARP, having cheap put options, belonging to the banking and broker-dealer sectors, and during periods of high financial risk and post-2008. For bearing the risk of government bailouts, short sellers of large heavily-shorted financial stocks earn significantly higher profits. Implicit government bailout guarantees seem to drive away more uninformed short sellers than informed ones, leading to more informed trading and higher information efficiency.

Sponsors:  Oklahoma State University, Rutgers University, Central University of Finance and Economics, China

PI/PDs:  Shu Yan

Rutgers University: Yuzhao Zhang

Central University of Finance and Economics: Yuecheng Jia

 

Skewness and Momentum

We document two opposite effects of return skewness on momentum profits. For individual stocks, momentum profits decrease with skewness while for industry portfolios, momentum profits increase with skewness. The findings cannot be explained by existing risk factors and stock characteristics. For individual stocks, the evidence is consistent with the behavioral theory of return skewness as well as the skewness preference theory. For industry portfolios, the evidence is consistent with the interpretation of portfolio skewness as a measure of asymmetric inefficiency.

Sponsors:  Oklahoma State University, Central University of Finance and Economics, China

PI/PDs:  Shu Yan

Central University of Finance and Economics: Yuecheng Jia

 

Is There A Growth Premium? Evidence from a Decomposition of Book-to-Market Ratio

This paper proposes a time-series decomposition of book-to-market ratio into a trend component and an innovation component. Under the framework of stock valuation with growth options, we demonstrate that the innovation component is negatively related to the change of growth options and therefore negatively related to the expected stock return. We document significant empirical evidence consistent with a growth premium as low innovation stocks earn significantly higher future returns, even after adjustment for risk factors and controlling for other predictors. Low innovation firms tend to convert more growth options, have higher leverage, and be more sensitive to idiosyncratic volatility and investment-specific technology shocks.

Sponsors:  Oklahoma State University, Central University of Finance and Economics, Nankai University, China

PI/PDs:  Shu Yan

Central University of Finance and Economics: Yuecheng Jia

Nankai University: Haoxi Yang

 

Post-Crisis Regulation of Bank Trading: An Examination of the Basel Framework and Volcker Rule

In the aftermath of bank trading losses in the 2007-09 crisis, the Basel framework uses stressed

Conditional Value-at-Risk (SCVaR) to set minimum capital requirements for bank trading portfolios, whereas the Volcker rule restricts their composition in the U.S. We examine the impact of a constraint that limits SCVaR in the mean-variance model. With or without the Volcker rule, such a constraint has the benefit of reducing the standard deviation (SD) of the optimal portfolio but the costs of moving it away from the M-V frontier and increasing its SD-to-minimum capital requirement ratio.

Sponsors:  Oklahoma State University, University of Minnesota, George Washington University

PI/PDs:  Shu Yan

University of Minnesota: Gordon J. Alexander

George Washington University: Alexandre M. Baptista

 

CEO Incentive Compensation and Stock Price Momentum

We document robust evidence that CEO incentive compensation predicts stock price momentum. The profit of momentum strategy increases with pay-for-performance incentive but decreases with risk-taking incentive. The evidence is more significant for companies with older and longer tenured CEOs, during high investor sentiment periods, and cannot be explained by information uncertainty proxies such as analyst coverage. Our results are consistent with the information diffusion explanation of momentum and the findings of agency theory that incentivized CEOs tend to manipulate information by smoothing good news, concealing mildly bad news, and accelerating the disclosure of extremely bad news.

Sponsors:  Oklahoma State University, Penn State University Behrend

PI/PDs:  Shu Yan

Penn State University Behrend: Hongrui Feng

 

Local Institutional Investors and Debt Maturity

We examine the relation between the geographic proximity of a firm’s institutional investors and the maturity structure of its debt. We hypothesize and find that firms with local institutional investors have shorter maturity debt. The effect of institutional proximity on debt maturity is stronger for firms with CEO-Chair duality and before the passage of Sarbanes-Oxley Act in 2002, consistent with that firms monitored by local institutional investors choose shorter maturity debt to reduce agency costs, especially, equity agency costs. The results demonstrate the importance of local institutional investors in affecting firms’ debt maturity policy choices.

Sponsor:  Oklahoma State University

PI/PDs: Jun Zhang, Qin Wang

 

Social Networks and Corporate Payout Policies

This paper examines the relation between firm social network and corporate payout policies and finds that social network significantly impacts payout compositions. Firms with greater network centrality pay lower dividends, repurchase more shares, and have a lower dividend to total payout ratio. Moreover, better connected firms invest more in acquisitions and R&D and have higher stock return volatility, and firms with higher acquisition and R&D investment pay lower dividends and repurchase more shares. Overall results suggest that to accommodate more risky investments, better connected firms substitute share repurchase for dividend payment to remain financially flexible.

Sponsor:  Oklahoma State University

PI/PD: Jun Zhang

 

Inside and Outside Debt Duration

Agency theory emphasizes that the incentive alignment effect of CEO debt compensation relies on the extent to which its payoffs resemble payoffs to risky corporate debt. We examine this notion using a sample of new corporate debt issues during 2007-2012. We find that debt-biased CEO relative leverage ratio is associated with longer debt maturity only when the CEO's inside debt will be less likely to be drawn up in the near future. We show that not only does inside debt level matter, but its maturity relative to corporate debt also plays an important role in the incentive-alignment effect.

Sponsors:  Oklahoma State University, Texas A&M University, Hong Kong Polytechnic University

PI/PDs: Jun Zhang

Texas A&M University: Shane Johnson

Hong Kong Polytechnic University: Nan Yang

 

Firm Riskiness and SEO Underpricing: Evidence from a Natural Experiment 

This paper examines the impact of firm riskiness on seasoned equity offering (SEO) underpricing by exploring RegSHO pilot program as a natural experiment. Facing greater downside risk, the RegSHO pilot firms are incentivized to lower their riskiness, which mitigates negative market reactions and reduces SEO underpricing. We find that, consistent with the conjecture, the pilot firms have lower risk and experience smaller SEO underpricing. In addition, the pilot firms tend to issue more equity to take advantage of the lower equity financing cost. Overall results support that firm riskiness has important impacts on SEO underpricing.

Sponsor: Oklahoma State University

PI/PDs: Jun Zhang, Siqi Wei

 

Stock Price Crash Risk and Options Market

This study investigates the interaction between stock price crash risk and options trading. On one hand, informed options trading reduces future stock price crash risk by decreasing bad news hoarding. The negative effect is more pronounced for riskier firms and firms with greater information asymmetry and when the options market is more liquid. On the other hand, stock price crash risk is positively related to future option trading volume and the ratio of put option volume relative to total option volume. Overall results suggest strong interaction between stock price crash risk and the options market.

Sponsor:  Oklahoma State University

PI/PDs: Jun Zhang, Qin Wang

 

Institutional Trading Around Corporate Fraud

We investigate whether institutional investors have information advantage by studying trading behaviors of institutional investors before revealing of corporate fraud. Compared to benchmark trading volumes, institutional investors have higher net selling volume of stocks of fraud firms several months before public revealing of corporate fraud, and the result holds only for more severe frauds leading to greater firm losses. The results suggest that institutional investors have information advantage and react early to corporate fraud before it is publicly revealed.

Sponsors: Oklahoma State University, University of Nevada-Las Vegas

PI/PDs: Jun Zhang, Qin Wang

University of Nevada-Las Vegas: D. Scott Lee

 

Local Institutional Investors and Seasoned Equity Offerings

This paper investigates the impact of local institutional investors on firms’ seasoned equity offerings (SEOs). Equity issuers with (more) local institutional investors and higher local institutional ownership experience higher SEO announcement returns. The causal effect is established by exploiting exogenous shocks to local institutional ownership generated by reconstitutions of the Russell 1000 and 2000 indexes. The finding is more pronounced for firms with greater agency problems and robust to the correction of sample selection bias. Overall results suggest that monitoring by local institutional investors helps reducing agency problems and mitigating negative market reactions to SEOs.

Sponsor: Oklahoma State University

PI/PD: Jun Zhang

 

Politically Connected CEOs and Liquidity Risk: Some Chinese Evidence

We document a negative association between the political connection and stock liquidity risk in Chinese market. The politically connected firms achieve better fundamental performance, stable investment decisions, and more transparent information environment. Those are important channels through which political connected CEO helps to lower the stock liquidity risk. We also find that the negative association between the political connection and stock liquidity risk is stronger in the State-Owned enterprises (SOE) and during the financial crisis period. This implies that political connected CEO leads to greater stock liquidity for firms during economic times when it is most valuable.

Sponsors: Oklahoma State University, Northeastern University (China), Penn State Behrend       

PI/PDs: Jun Zhang

Northeastern University (China): Jian Wang, Shangkun Yi

Penn State Behrend: Hongrui Feng

 

TIPS in the Rearview Mirror:  A Relative Performance Comparison

We study the ex-post performance of Treasury Inflation-Protected Securities (TIPS) relative to a maturity-matched nominal Treasury security. In this paper, we find that TIPS do not significantly outperform their maturity-matched nominal security in the sample that has matured as of December 2019.  Next, we examine the return performance assuming investors are unable to reinvest the semi-annual coupon payments.  We show that without the reinvestment income the matured 10-year TIPS notes significantly outperform their matched nominal security.  Lastly, we examine the implication on taxpayers by comparing the cost relative ratio and cost difference.  Our results suggest that there is no significant difference to the taxpayer, which is contrary to findings in prior literature.

Sponsors: Oklahoma State University, Texas Tech University

PI/PDs: Eric Sisneros

Texas Tech University:  Joshua Fairbanks, Scott E. Hein

 

The Efficacy of Buying Stocks on Margin

In this paper, I explore the historical return distributions of various levered investment strategies in equities and test whether investing in stocks using broker’s call loans (on margin) is more effective than investing in stocks on a cash only basis.  Using the CRSP value weighted index as well as randomly selected portfolios of stocks formed using CRSP data as test assets, I simulate investment on margin using the rules that brokers impose on investors.  The returns on these simulations are estimated for both annual and monthly holding periods over the period from 1974 to 2020.

Sponsors: Oklahoma State University, Texas Tech University

PI/PDs: Eric Sisneros

Texas Tech University:  Jeffrey M. Mercer

 

GARCH Fuel Hedging Strategies Under Overlapping Crises

This paper examines the performance of multivariate GARCH models for fuel spot and futures returns over recent crises. Specifically, we estimate CCC and DCC models along with corresponding variants. Using the optimal model, we calculate portfolio weights, hedge ratios (OHR), and hedge effectiveness (HE) for the full sample and three sub-samples: Post-Covid, Post-Financial Crisis, and 2020 Saudi-Russia Price War. Results indicate that DCC models provided the best forecast. Significant heterogeneity exists in HE across individual fuel commodities and samples. Further, HE was particularly high at the start of Covid-19. Following the OPEC Price War, HE rapidly decreased, exposing investors to excess risk.

Sponsor: Oklahoma State University

PI/PDs:  Eric Sisneros

Oklahoma State University:  Yuri Hupka

 

The Effect of Revenue Diversification on Bank Profitability and Risk During the COVID-19 Pandemic

Banks can potentially reduce the variability of their revenue by diversifying beyond traditional lending activities into noninterest revenue sources. We investigate the effect of the COVID-19 pandemic on the relation between the use of noninterest income and bank profit and risk. The economic effect of the pandemic resulted in tightened credit standards and reduced demand for many types of loans. We find that noninterest revenue sources are positively related to performance but inversely related to risk. These results are consistent with a beneficial diversification effect during the pandemic from banks expanding beyond traditional lending sources of revenue.

Sponsors: Oklahoma State University, Penn State Behrend, Zhejiang University

PI/PDs: David Carter,

Penn State Behrend: Hongrui Feng, Sebastian Zhao

Zhejiang University: Xingjian Li

 

The Stock Price Reaction of the COVID-19 Pandemic on the Airline, Hotel, and Tourism Industries

This paper investigates the stock market performance from the second half of February through the latter portion of March 2020 for U.S. travel-related firms (airlines, restaurants, and hotels) in response to the COVID-19 pandemic. Clearly the reduction in travel was negative news for the travel industry; however, we focus on the factors used by market participants to price the information into stock prices. We find that larger firms with greater cash reserves and higher market-to-book ratios experienced less negative returns, while firms with greater leverage were penalized more. Additionally, we find that cash reserves were particularly important for hotels.  

Sponsor: Oklahoma State University

PI/PDs: David Carter, Sharif Mazumder, Betty Simkins, Eric Sisneros

 

Volatility Modeling Using High Frequency Data to Identify Cryptocurrency Bubbles

Bitcoin is a cryptocurrency, developed in 2008. Recent run-ups in the price of Bitcoin have prompted many observers to argue that it is an example of a financial bubble. We use a stochastic volatility estimator proposed by Florens-Zmirou (1993) to identify bubble behaviour in Bitcoin prices during 2017.  We find several periods where Bitcoin price behaviour is consistent with financial bubble behaviour.  

Sponsor: Oklahoma State University

PI/PDs: David Carter, Vijay Gautam,

Department of Mathematics: Weiping Li

 

Community Values, Female Board Representation, and Firm Performance: The Role of Social Capital, Religion, and Politics

We explore the impact of community values in the county a firm is headquartered in has on corporate board diversity. We find that counties with higher social capital and a lower percentage of Republican voters are more likely to have more female board members and is robust to an instrumental variable approach. Furthermore, female board members have a greater positive impact in areas less likely to hire women on their boards (i.e., lower social capital and more Republican voters).

Sponsors: Oklahoma State University, Miami University

PI/PDs: David Carter

Miami University: Corey Shank

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