1.CAPM-Based Company (Mis)valuations
Olivier Dessaint (University of Toronto)
Jacques Olivier (HEC Paris)
Clemens Otto (Singapore Management University)
David Thesmar (MIT-Sloan and CEPR)
Abstract
There
is a discrepancy between CAPM-implied and realized returns. Using the
CAPM in capital budgeting—as recommended in textbooks—should thus have
real effects. For instance, low beta projects should be valued more by
CAPM users than by the market. We test this hypothesis using M&A
data and show that bids for low-beta private targets entail lower bidder
returns. We provide further support by testing several ancillary
predictions. Our analyses suggest that using the CAPM when valuing
targets leads to valuation errors (relative to the market’s view)
corresponding on average to 12% to 33% of the deal values.
2.Models or Stars: The Role of Asset Pricing Models and Heuristics in Investor Risk Adjustment
Richard Evans (University of Virginia)
Yang Sun (Brandeis University)
Abstract
We
examine the role of factor models and simple performance heuristics in
investor decision-making using Morningstar’s 2002 rating methodology
change. Before the change, flows strongly correlated with CAPM alphas.
After, when funds are ranked by size and book-to-market groups, flows
become more sensitive to 3-factor alphas (FF3). Flows to a matched
institutional sample (same managers/strategies) follow FF3 before and
after the change but are unrelated to the CAPM. Placebo tests with
sector funds and other factor loadings show no effects. Our results
imply that improvements in simple performance heuristics can result in
more sophisticated risk adjustment by retail investors.
3.What Do Fund Flows Reveal about Asset Pricing Models and Investor Sophistication?
Narasimhan Jegadeesh (Emory University)
Chandra Mangipudi (Emory University)
Abstract
Recent
evidence indicates that market model alphas are stronger predictors of
mutual fund flows than alphas with other models. Some recent papers have
interpreted this evidence to mean that CAPM is the best asset pricing
model, but some others have interpreted it as evidence against investor
sophistication. We evaluate the merits of these mutually exclusive
interpretations. We show that no tenable inference about the validity of
any asset pricing model can be drawn from this evidence. Rejecting the
investor sophistication hypothesis is tenable, but the appropriate
benchmark to judge sophistication is different from that used in this
literature.
4.Out-of-Sample Performance of Mutual Fund Predictors
Christopher Jones (University of Southern California)
Haitao Mo (Louisiana State University)
Abstract
We
analyze the out-of-sample performance of variables shown to forecast
future mutual fund alphas. The degree of predictability, as measured by
alpha spreads from quintile sorts or cross-sectional regression slopes,
falls by at least half post-sample. These declines appear to be
primarily the result of changes in the level of arbitrage activity in
the market, with mutual fund competition appearing to play a secondary
role. We find no evidence that the declines are the result of data
snooping or learning by investors or fund managers. Finally, we show
that corporate bond fund performance exhibits similar dependence on
measures of bond market arbitrage activity.
5.Portfolio Pumping and Managerial Structure
Saurin Patel (Western University)
Sergei Sarkissian (McGill University and University of Edinburgh)
Abstract
Using
U.S. equity mutual fund data, we show that portfolio pumping—an illegal
trading activity that artificially inflates year- and quarter-end
portfolio returns—is more pronounced among single-managed funds compared
with team-managed ones. The return inflation by team-managed funds is
45% lower than by single-managed funds at year-ends. Also, portfolio
pumping decreases as team size increases. These results are driven by
peer effects among teams and, sometimes, amplified by less convex
flow-performance relation in team-managed funds. Our findings are robust
to differences in fund governance, manager career concerns, local
networks, fund family policies, and changes in the SEC’s enforcement
policies.
6.Best Buys and Own Brands: Investment Platforms’ Recommendations of Mutual Funds
Gordon Cookson (KPMG)
Tim Jenkinson (University of Oxford)
Howard Jones (University of Oxford)
Jose Martinez (University of Connecticut)
Abstract
Individuals
increasingly buy mutual funds via online platforms, whose “best-buy”
recommendations heavily influence flows. As intermediaries of mutual
funds, platforms provide none of the unobservable interaction or
intangible benefits of brokers, and so allow clean tests of the
determinants, influence, and value of their fund recommendations. Using
unique U.K. data, we find that platforms favor “own-brand” funds and
those paying them a higher commission share. Investors discount
own-brand recommendations, but not those paying high commission shares
(which were not observable in the United Kingdom). A regulatory ban on
commission sharing lowered costs and improved the informativeness of
platform recommendations.
7.The Chinese Warrants Bubble: Evidence from Brokerage Account Records
Neil Pearson (University of Illinois at Urbana-Champaign and CDI Research Fellow)
Zhishu Yang (Tsinghua University)
Qi Zhang (Durham University)
Abstract
We
use brokerage account records to study trading during the Chinese put
warrants bubble and find evidence consistent with extrapolative theories
of speculative asset price bubbles. We identify the event that started
the bubble and show that investors engaged in a form of feedback trading
based on their own past returns. The interaction of feedback trading
with the precipitating event caused additional buying and price
increases in a feedback loop, and estimates of the trading volume due to
this mechanism explain prices and returns during the bubble.
8.Winners, Losers, and Regulators in a Derivatives Market Bubble
Xindan Li (Nanjing University)
Avanidhar Subrahmanyam (University of California at Los Angeles)
Xuewei Yang (Nanjing University)
Abstract
We
use proprietary brokerage data to study trading patterns within a
well-known financial market bubble: the Chinese warrants bubble.
Persistently successful investors trade very actively and exhibit
characteristics of de facto market makers. Unskilled investors
unprofitably trend-chase and increase holdings in out-of-the-money
warrants near expiration, whereas sophisticated investors do the
reverse. We find that regulators did not properly forecast trading
frenzies, as the prespecified price limits often exclude the fundamental
values of warrants.
9.Momentum and Reversals When Overconfident Investors Underestimate Their Competition
Jiang Luo (Nanyang Technological University)
Avanidhar Subrahmanyam (University of California at Los Angeles)
Sheridan Titman (University of Texas at Austin)
Abstract
We
develop a model in which overconfident investors overestimate their own
signal quality but are skeptical of others’ Investors who are initially
uninformed believe that early-informed investors have learned little,
leading the former investors to provide excess liquidity, which, in
turn, causes underreaction and short-run momentum. Skeptical investors
can also react to stale information, causing momentum, followed by
reversals. Hence, skepticism generates both momentum and reversals; the
latter are amplified if investors overassess their own signal precision.
We explain how long-run reversals can disappear while shorter-term
momentum prevails, provide empirical implications, and link momentum to
liquidity and price efficiency.
10.Implied Stochastic Volatility Models
Yacine Aït-Sahalia (Princeton University and NBER)
Chenxu Li (Peking University)
Chen Xu Li (Renmin University of China)
Abstract
This
paper proposes “implied stochastic volatility models” designed to fit
option-implied volatility data and implements a new estimation method
for such models. The method is based on explicitly linking observed
shape characteristics of the implied volatility surface to the
coefficient functions that define the stochastic volatility model. The
method can be applied to estimate a fully flexible nonparametric model,
or to estimate by the generalized method of moments any arbitrary
parametric stochastic volatility model, affine or not. Empirical
evidence based on S&P 500 index options data show that the method is
stable and performs well out of sample.
11.Untangling the Value Premium with Labor Shares
Andres Donangelo (University of Texas at Austin)
Abstract
This
paper quantifies the relative importance of labor-induced operating
leverage at explaining the value premium. I extend a traditional
variance decomposition methodology using labor shares to disentangle
labor leverage from the value premium and from the value spread and from
the variation in profitability levels and growth. My extended
decomposition shows that labor leverage explains approximately 50% of
the value premium, whereas profitability and growth-based mechanisms
explain the other 50%. I propose a tractable production-based
asset-pricing model that qualitatively and quantitatively explains this
finding, as well as the relation between book-to-market ratios, discount
rates, profitability, and future growth.
12.Heterogeneous Taxes and Limited Risk Sharing: Evidence from Municipal Bonds
Tania Babina (Columbia University)
Chotibhak Jotikasthira (Southern Methodist University)
Christian Lundblad (University of North Carolina)
Tarun Ramadorai (Imperial College and CEPR)
Abstract
We
evaluate the impacts of tax policy on asset returns using the U.S.
municipal bond market. In theory, tax-induced ownership segmentation
limits risk sharing, creating downward-sloping regions of the aggregate
demand curve for the asset. In the data, cross-state variation in tax
privilege policies predicts differences in in-state ownership of local
municipal bonds; the policies create incentives for concentrated local
ownership. High tax privilege states have muni bond yields that are more
sensitive to variations in supply and local idiosyncratic risk. The
effects are stronger when local investors face correlated background
risk and/or diminishing marginal nonpecuniary benefits from holding
local assets.
