Big (and Dirty) Short
Air Pollution and Stock Returns in the US
Tamir Levy & Joseph Yagil
Journal of Economic Psychology, forthcoming
Abstract:
Health related research documents that air pollution has negative mood effects. Experimental works in psychology relate bad mood to increased risk aversion. Studies in financial economics report an observed link between mood effects and stock market returns. This study therefore investigates whether the mood effects caused by air pollution can have economic implications. It examines the relationship between air pollution and stock returns using data from the Air Quality Index, and stock returns from four stock exchanges in the US. We find that air pollution is negatively related to stock returns, even when controlling for other variables. The relationship becomes weaker as the distance of the stock exchange from the polluted area increases. The results also indicate that air pollution may even affect local traders investing in securities exchanges located far from the polluted area. The findings imply that a profitable trading strategy can be constructed.
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IQ and Stock Market Participation
Mark Grinblatt, Matti Keloharju & Juhani Linnainmaa
Journal of Finance, forthcoming
Abstract:
Stock market participation is monotonically related to IQ, controlling for wealth, income, age, and other demographic and occupational information. The high correlation between IQ, measured early in adult life, and participation, exists even among the affluent. Supplemental data from siblings, studied with an instrumental variables approach and regressions that control for family effects, demonstrate that IQ's influence on participation extends to females and does not arise from omitted familial and non-familial variables. High-IQ investors are more likely to hold mutual funds and larger numbers of stocks, experience lower risk, and earn higher Sharpe ratios. We discuss implications for policy and finance research.
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Higher risk, lower returns: What hedge fund investors really earn
Ilia Dichev & Gwen Yu
Journal of Financial Economics, forthcoming
Abstract:
The returns of hedge fund investors depend not only on the returns of the funds they hold but also on the timing and magnitude of their capital flows in and out of these funds. We use dollar-weighted returns (a form of Internal Rate of Return (IRR)) to assess the properties of actual investor returns on hedge funds and compare them to buy-and-hold fund returns. Our main finding is that annualized dollar-weighted returns are on the magnitude of 3% to 7% lower than corresponding buy-and-hold fund returns. Using factor models of risk and the estimated dollar-weighted performance gap, we find that the real alpha of hedge fund investors is close to zero. In absolute terms, dollar-weighted returns are reliably lower than the return on the Standard & Poor's (S&P) 500 index, and are only marginally higher than the risk-free rate as of the end of 2008. The combined impression from these results is that the return experience of hedge fund investors is much worse than previously thought.
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Are Investors Moonstruck? Further International Evidence on Lunar Phases and Stock Returns
Stephen Keef & Mohammed Khaled
Journal of Empirical Finance, January 2011, Pages 56-63
Abstract:
This study uses an alternative model specification to re-examine the influences of the new moon and the full moon on the daily returns of 62 international stock indices for the period 1988 to 2008. The fixed effects panel model incorporates the prior day effect and two calendar anomalies, i.e., the Monday effect and the turn-of-the-month effect, to assess variations in the lunar influences. A covariate, based on per capita gross domestic product (GDP), examines how the results vary between countries. The prior day effect is greater for less developed countries. The overall enhanced new moon effect is independent of GDP. An overall full moon effect is absent. These lunar effects are weakly influenced by the calendar anomalies.
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Doing good deeds in times of need: A strategic perspective on corporate disaster donations
Alan Muller & Roman Kräussl
Strategic Management Journal, forthcoming
Abstract:
Major corporations often respond charitably in times of disaster. However, disasters can also impose nontrivial costs on firms themselves, and under adverse conditions, firms typically donate less, not more. This paper takes a strategic perspective on corporate magnanimity in times of crisis by looking at the relationship between firm value, reputation, and donations by U.S. Fortune 500 firms in the case of Hurricane Katrina. In general, we find that Katrina's landfall was associated with significant negative abnormal stock returns. In particular, we find that a reputation for social irresponsibility was associated with both the greatest drop in stock prices and the greatest likelihood of making a subsequent charitable donation in response to the disaster.
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Red and blue investing: Values and Finance
Harrison Hong & Leonard Kostovetsky
Journal of Financial Economics, forthcoming
Abstract:
Using data on the political contributions and stock holdings of U.S. investment managers, we find that mutual fund managers who make campaign donations to Democrats hold less of their portfolios (relative to non donors or Republican donors) in companies that are deemed socially irresponsible (e.g., tobacco, guns, or defense firms or companies with bad employee relations or diversity records). Although explicit SRI (socially responsible investing) funds are more likely to be managed by Democratic managers, this result holds for non-SRI funds and after controlling for other fund and manager characteristics. The effect is more than one-half of the underweighting observed for SRI funds.
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Running on Empty? Financial Leverage and Product Quality in the Supermarket Industry
David Matsa
American Economic Journal: Microeconomics, February 2011, Pages 137-173
Abstract:
This paper examines whether debt financing can undermine a supermarket firm's incentive to provide product quality. In the supermarket industry, product availability is an important measure of a retailer's quality. Using US consumer price index microdata to track inventory shortfalls, I find that taking on high financial leverage increases shortfalls. Highly leveraged firms appear to be degrading their products' quality in order to preserve current cash flow for debt service. Although reducing quality can erode both current sales and customer loyalty, firms appear to be willing to risk these outcomes in order to achieve benefits associated with debt finance.
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Zhi Da, Joseph Engelberg & Pengjie Gao
Journal of Finance, forthcoming
Abstract:
We propose a new and direct measure of investor attention using search frequency in Google (SVI). In a sample of Russell 3000 stocks from 2004 to 2008, we find that SVI (1) is correlated with but different from existing proxies of investor attention; (2) captures investor attention in a more timely fashion and (3) likely measures the attention of retail investors. An increase in SVI predicts higher stock prices in the next two weeks and an eventual price reversal within the year. It also contributes to the large first-day return and long-run underperformance of IPO stocks. Our results provide direct support for Barber and Odean's (2008) price pressure hypothesis and highlight the usefulness of search data which can reveal investor interests.
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Predicting the presidential election cycle in US stock prices: Guinea pigs versus the pros
Manfred Gartner
Applied Economics Letters, December 2010, Pages 1759-1765
Abstract:
The notion that US stock prices follow a pattern that is synchronized with presidential elections has been discussed among financial investors for a long time. Academic work exists that supports this idea, quantifies the pattern and has demonstrated its robustness over several decades and across parties in power. This article takes the existence and robustness of this presidential election cycle for granted and asks whether individuals exploit it when they predict stock prices. It considers and contrasts two types of such forecasts: Those made by professionals included in the Livingston survey and those made by students in a laboratory experiment. A key result is that neither group fares particularly well, though participants in the experiment outperformed the professionals.
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Dominant CEO, Deviant Strategy, and Extreme Performance: The Moderating Role of a Powerful Board
Jianyun Tang, Mary Crossan & Glenn Rowe
Journal of Management Studies, forthcoming
Abstract:
This study examines the effect of dominant CEOs - defined as CEOs who are very powerful relative to other executives in their top management teams - on firm strategy and performance. Based on a sample of 51 publicly traded, single-business firms from the US computer industry for the period 1997-2003, our results suggest that firms with dominant CEOs tend to have a strategy deviant from the industry central tendency and thus extreme performance - either big wins or big losses. Further, powerful boards weaken the tendency of dominant CEOs towards extremeness and, more important, improve the likelihood of dominant CEOs having big wins versus big losses. This study reconciles the pessimistic and heroic views regarding dominant CEOs, and suggests that the notion of power balance should be considered in a broader context.
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Using an Eye Tracker to Examine Behavioral Biases in Investment Tasks: An Experimental Study
Tal Shavit, Cinzia Giorgetta, Yaniv Shani & Fabio Ferlazzo
Journal of Behavioral Finance, October 2010, Pages 185-194
Abstract:
Contrary to the premise of rational models, which suggests that investors' aggregate portfolios are the appropriate informational asset for evaluating a file performance, we find, using an eye tracker, that investors spend more time looking at performances of an individual asset than at the performances of the overall aggregated portfolio and at the net value change more than the assets' final value. We also find that investors look at the monetary value change longer than at change in percentages. Specifically, participants look longer at the value change of gaining assets than at the value change of losing assets. We propose the possibility that investors are not only engaged in judgment when evaluating their portfolio (leading to loss aversion and mental accounting) but may also be predisposed to looking for reassuring elements within it. Thus, it may be that humans use mental accounting by nature and not necessarily by judgment.
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Dror Kenett et al.
PLoS ONE, December 2010, e15032
Abstract:
What are the dominant stocks which drive the correlations present among stocks traded in a stock market? Can a correlation analysis provide an answer to this question? In the past, correlation based networks have been proposed as a tool to uncover the underlying backbone of the market. Correlation based networks represent the stocks and their relationships, which are then investigated using different network theory methodologies. Here we introduce a new concept to tackle the above question - the partial correlation network. Partial correlation is a measure of how the correlation between two variables, e.g., stock returns, is affected by a third variable. By using it we define a proxy of stock influence, which is then used to construct partial correlation networks. The empirical part of this study is performed on a specific financial system, namely the set of 300 highly capitalized stocks traded at the New York Stock Exchange, in the time period 2001-2003. By constructing the partial correlation network, unlike the case of standard correlation based networks, we find that stocks belonging to the financial sector and, in particular, to the investment services sub-sector, are the most influential stocks affecting the correlation profile of the system. Using a moving window analysis, we find that the strong influence of the financial stocks is conserved across time for the investigated trading period. Our findings shed a new light on the underlying mechanisms and driving forces controlling the correlation profile observed in a financial market.
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Seasonality in the Cross Section of Stock Returns: The International Evidence
Steven Heston & Ronnie Sadka
Journal of Financial and Quantitative Analysis, October 2010, Pages 1133-1160
Abstract:
This paper studies seasonal predictability in the cross section of international stock returns. Stocks that outperform the domestic market in a particular month continue to outperform the domestic market in that same calendar month for up to 5 years. The pattern appears in Canada, Japan, and 12 European countries. Global trading strategies based on seasonal predictability outperform similar nonseasonal strategies by over 1% per month. Abnormal seasonal returns remain after controlling for size, beta, and value, using global or local risk factors. In addition, the strategies are not highly correlated across countries. This suggests they do not reflect return premiums for systematic global risk.
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Li Jin & Anna Scherbina
Review of Financial Studies, forthcoming
Abstract:
We show that new managers who take over mutual fund portfolios sell off inherited momentum losers at higher rates than stocks in any other momentum decile, even after adjusting for concurrent trades in these stocks by continuing fund managers. This behavior is observed regardless of fund characteristics and is stronger when new managers are external hires. The tendency of continuing fund managers to hold on to losers could be consistent with either a behavior bias stemming from an inability to ignore the sunk costs associated with the stocks' past underperformance or a conscious desire to protect their careers by not admitting prior mistakes. Furthermore, we present evidence that selling off loser stocks helps improve fund performance.
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Non-Binding Voting for Shareholder Proposals
Doron Levit & Nadya Malenko
Journal of Finance, forthcoming
Abstract:
Shareholder proposals are a common form of shareholder activism. Voting for shareholder proposals, however, is non-binding in the sense that the management has the authority to reject the proposal even if it received majority support from shareholders. We analyze whether non-binding voting is an effective mechanism for conveying shareholder expectations. We show that in contrast to binding voting, non-binding voting generally fails to convey shareholder views when the interests of the manager and shareholders are not aligned. Surprisingly, the presence of an activist investor who can discipline the manager may enhance the advisory role of non-binding voting only if there is substantial conflict of interest between shareholders and the activist.
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Endogenous Overconfidence in Managerial Forecasts
Gilles Hilary & Charles Hsu
Journal of Accounting and Economics, forthcoming
Abstract:
We examine whether attribution bias that leads managers who have experienced short-term forecasting success to become overconfident in their ability to forecast future earnings. Importantly, this form of overconfidence is endogenous and dynamic. We also examine the effect of this cognitive bias on the managerial credibility. Consistent with the existence of dynamic overconfidence, managers who have predicted earnings accurately in the previous four quarters are less accurate in their subsequent earnings predictions. These managers also display greater divergence from the analyst consensus and are more precise. Lastly, investors and analysts react less strongly to forecasts issued by overconfident managers.
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All the News That's Fit to Reprint: Do Investors React to Stale Information?
Paul Tetlock
Review of Financial Studies, forthcoming
Abstract:
This article tests whether stock market investors appropriately distinguish between new and old information about firms. I define the staleness of a news story as its textual similarity to the previous ten stories about the same firm. I find that firms' stock returns respond less to stale news. Even so, a firm's return on the day of stale news negatively predicts its return in the following week. Individual investors trade more aggressively on news when news is stale. The subsequent return reversal is significantly larger in stocks with above-average individual investor trading activity. These results are consistent with the idea that individual investors overreact to stale information, leading to temporary movements in firms' stock prices.
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A More Predictive Index of Market Sentiment
Todd Feldman
Journal of Behavioral Finance, October 2010, Pages 211-223
Abstract:
Recently, finance literature has turned to non-economic factors such as investor sentiment as possible determinants of asset prices. Using mutual fund data, I calculate a new sentiment measure, a perceived loss index. The advantage of the loss index is that it can determine perceived risk for different categories of equities, including market capitalization, style and sector. Results provide evidence that the perceived loss index outperforms all other sentiment and systematic risk measures in predicting future medium run returns, especially for one- and two-year horizons. This evidence pertains not just to broad market returns but also to capitalization-style and sector specific indice returns as well. In addition, I provide evidence that the loss index can be used as a quantitative measure to detect bubbles and financial crises in financial markets.
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Gold and the US dollar: Hedge or haven?
Mark Joy
Finance Research Letters, forthcoming
Abstract:
Using a model of dynamic conditional correlations covering 23 years of weekly data for 16 major dollar-paired exchange rates, this paper addresses a practical investment question: Does gold act as a hedge against the US dollar, as a safe haven, or neither? Key findings are as follows. (i) During the past 23 years gold has behaved as a hedge against the US dollar. (ii) Gold has been a poor safe haven. (iii) In recent years gold has acted, increasingly, as an effective hedge against currency risk associated with the US dollar.
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Ex post: The investment performance of collectible stamps
Elroy Dimson & Christophe Spaenjers
Journal of Financial Economics, forthcoming
Abstract:
This paper uses stamp catalogue prices to investigate the returns on British collectible postage stamps over the period 1900-2008. We find an annualized return on stamps of 7.0% in nominal terms, or 2.9% in real terms. These returns are higher than those on bonds but below those on equities. The volatility of stamp prices approaches that of equities. Stamp returns are impacted by movements in the equity market, but the systematic risk of stamps remains low. Stamps partially hedge against unanticipated inflation. Estimates of average after-cost returns for individual investors show that stamps may rival equities in terms of realized performance.