Finance Theses and Dissertations
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Item ESSAYS IN INNOVATION AND ENTREPRENEURSHIP(2024) Ye, Zhen; Tate, Geoffrey A.; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)My dissertation focuses on the topics of innovation and entrepreneurship. In Chapter 1, I study how banks affect their borrowing firms’ green innovation when they reduce credit to firms with high carbon emissions. Using banks’ commitments to carbon neutrality as credit shocks to the borrowing firms, I first show that high-emission firms file fewer green patents following their relationship banks’ commitments to carbon neutrality. At the same time, other borrowing firms that receive increased lending from these committed banks see an increase in green patent filings. Second, I present evidence suggesting that financial constraints and inventor mobility are important mechanisms driving these effects. Third, I find that the value of newly filed green patents by firms in high-emission industries declines post-commitment, whereas there appears to be no discernible impact on the value of green patents filed by other firms. Finally, I develop a novel measure that gauges a patent’s relevance to mitigating climate change impact using text algorithms and show that banks’ commitments lead to lower relevance of green patents filed by high-emission firms. Altogether, the paper highlights an unintended consequence of bank divestment: a decrease in the production of high-quality green patents.Chapter 2 is joint work with Sven Oskarsson and Rafael Ahlskog. This chapter investigates the effects of parental income volatility on individuals’ entrepreneurial decisions in Sweden. Our results indicate that individuals who experience higher uninsurable parental income volatility during adolescence are more likely to become entrepreneurs. Specifically, a one-standard-deviation increase in parental income volatility is associated with an increase in the probability of becoming an entrepreneur by around 45% relative to the mean. Second, we find that firms started by individuals with higher parental income instability have a lower survival rate. Finally, we present evidence in line with higher risk tolerance being an important mechanism driving our findings. We do not find support for alternative mechanisms, including human capital accumulation and financial resources.Item Essays in Corporate Finance(2024) Wu, Chengjun; Maksimovic, Vojislav; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation contains three essays that explore topics in corporate finance and banking. Chapter 1 studies the role of board's political connections in corporate misconduct. Leveraging a policy shock in China that mandated politically connected directors to resign from corporate boards, I find that following the disruption in political connections, firms become less prone to commit misconduct while their misconduct is more likely to be detected. The elimination of political connections on board is particularly effective in deterring and detecting high-level offenses. The effects of the policy are also more pronounced for non-state-owned enterprise and firms in regions with lower level of corruption. I also find that firms affected by the shock are more inclined to initiate Directors and Officers insurance coverage and executives from such firms exhibit more negative sentiments in communications. Overall, the results suggest that political connections may shape firm compliance and facilitate a more lenient regulatory environment for the firm, thereby posing significant challenges to effective regulatory oversight. In Chapter 2, we argue that bank holding companies (BHCs) extend shadow insurance to the prime institutional money market funds (PI-MMFs) they sponsor and that PI-MMFs price this shadow insurance by charging investors significantly higher expense ratios and paying lower net yields. We provide evidence that after September 2008, expense ratios at BHC-sponsored PI-MMFs increased more than at non-BHC-sponsored PI-MMFs. Despite higher expense ratios, BHC-sponsored PI-MMFs did not experience larger redemptions than non-BHC-sponsored PI-MMFs. In addition, we show that expense ratios increased with BHCs' financial strength and the likelihood of their support; however, this expense ratio differential disappeared after the 2016 MMF reform. Chapter 3 studies how the revelation of financial misconduct affects the peer firms of the accused firm. I find that such spillover effect exists in both equity and debt markets using event study approach and staggered difference-in-differences design. In the equity market, the peer firms of the accused firm suffer significant negative cumulative abnormal returns. In the debt markets, both loans and bonds of the peer firms exhibit significantly higher spread over the benchmark risk-free rate following the misconduct revelation. Peer firms that employ the same auditor as the accused firm are more adversely affected. These peer firms not only experience even lower cumulative abnormal returns but also face tighter terms from creditors including collateral requirements and more restrictive covenants. They are also more likely to replace their auditors to distance themselves from the accused firm. The findings are consistent with the notion that financial misconduct erodes the trust in capital markets, prompting market participants to reassess the credibility of the non-accused peer firms.Item ESSAYS ON INNOVATION, HUMAN CAPITAL, AND SMALL BUSINESSES(2023) Xue, Jing; Maksimovic, Vojislav; Yang, Liu; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation comprises three essays that explore how human and social capital influence innovation and promote firm dynamism, particularly for small businesses. It studies how firms' uptake of projects is shaped by the local environments, such as superstar firms, talent clusters, and local social capital. In the first essay, I study the labor channel underlying the agglomeration of innovation activity. It identifies the reallocation of human capital as a key channel of agglomeration spillovers for innovative firms. To measure agglomeration spillovers, I study how R&D labs in different local labor markets respond differently to scientific breakthroughs, which create large and unexpected shocks to innovation productivity in certain technology categories. I document four main findings. i), following scientific breakthroughs, affected labs in thicker local labor markets (i.e., commuting zones with more inventors innovating in a certain field) produce more patents and higher-quality patents, consistent with positive agglomeration spillovers. ii), the increase in patenting is mostly attributed to new hires rather than incumbent inventors. iii), the thick labor market effect is concentrated in states and industries where there is lower enforceability of non-compete agreements and labor is more mobile. iv), using textual analysis to identify lab-level exposure to scientific breakthroughs, I find that inventors are reallocated to labs that are more favorably affected by shocks, which helps labs in thicker labor markets to more easily bring in inventors working in the same niche fields and having a diverse knowledge base. Taken together, these results point to labor mobility as a key force in explaining why innovative firms cluster and suggest that the clustering of firms in thick labor markets can foster corporate innovation by facilitating the productivity-enhancing reallocation of human capital following scientific breakthroughs. In the second essay, I identify the entry effects of top innovative firms on incumbent innovation. I exploit the inter-temporal variation in patenting activities of local inventors in chosen commuting zones that attracted the firm headquarters and in runner-up commuting zones that were finalists of location choice. Treated and control groups have similar trends prior to the entry, while the local inventors in the chosen zones apply 6.7% more patents, gain 16.8% more top patents, and receive 11.6% more citations. Entry effects are stronger among local inventors who are technologically or socially closer to the entering firm, after controlling for innovation incentives and labor mobility. Social closeness, isolated from technological proximity, consistently explains the innovation gains, which suggests knowledge diffusion is the important channel for local innovation productivity spillovers. In the third essay, we investigate why small businesses exploit business opportunities better in some areas than others. In a sample of 1.2 million consumer-facing establishments, social capital predicts the uptake of risk-free loans controlling for close-by bank branches, income, and education. One standard deviation increase in the social capital metric accounts for 20 percent of the variation in uptake across zip codes, surpassing the impact of a bank branch within 1000 yards. Strong social capital benefits large, low-growth stores in less-dynamic areas, whereas bank branches benefit small, high-growth stores in more-dynamic areas. Virtual connections have the greatest effect on uptake in already advantaged locations.Item Essays in Financial Economics(2022) Zhou, Wei; Kyle, Albert S; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation contains two essays in market microstructure and institutional asset management. The first essay studies a dynamic model of strategic trading where the parameters of temporary price impact (how price depends on a trader's current rate of trading) and permanent price impact (how price depends on the cumulative quantity traded over time) are endogenous and time-varying. A monopolistic informed speculator trades with oligopolistic uninformed speculators. They agree to disagree about the precision of the informed speculator's private Gaussian information flow. In the interval-trading Nash equilibrium with linear Markov strategies, trade starts if the disagreement is high enough and stops when the decaying alpha becomes insufficient to generate further trading benefits. Equilibrium permanent price impact parameters encapsulate the counteracting effects of descending residual uncertainty and diminishing trading opportunities. Equilibrium temporary price impact parameters capture traders' inter-temporal trade-offs between the benefits of learning and trading. The second essay was motivated by the observation that active institutional investors anticipate potential unwinding costs when accumulating positions. In this essay, I develop a dynamic model to study how strategic traders' accumulation and unwinding motives interact and evolve when facing a decaying profit opportunity. The unwinding pressures come from quadratic (regulatory) holding costs and price impacts of competitors' trades. The model shows that (i) with unwinding pressures, traders are reluctant to exploit persistent opportunities and profit most from those with an intermediate decaying rate; (ii) competition alleviates the unwinding pressure from holding costs but strengthens that from competitors' price impacts; and (iii) with increased regulatory costs, traders' most profitable opportunities shift to more transient ones.Item Essays on Mutual Fund Performance Evaluation and Investors' Capital Allocations(2022) Cao, Bingkuan; Wermers, Russ; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)The dissertation contains two chapters that studies the performance of mutual funds and investors' capital allocations. In the first chapter, I study mutual funds' portfolio management and investors' capital allocations in a unified framework under mandatory portfolio disclosure. By modeling fund managers and investors simultaneously, I show that more skill managers produce better performance by trading more actively, which causes investors to care about both fund performance and activeness when evaluating fund managers. This investor's behavior explains the convex flow-performance relation observed in the market. In addition, my model demonstrates that portfolio holdings information is more useful to investors than fund returns because portfolio holdings reveal manager activeness that is not fully captured by fund returns. My model offers three novel empirical predictions for which I find consistent evidence in the data. First, investor flows respond to both fund performance and activeness. Second, investor flows are more sensitive to the performance of illiquid holdings in the portfolio. Finally, in a diff-in-diff analysis, I show that investor flows become more sensitive to fund activeness when portfolios are disclosed more frequently. In the second chapter, I study the performance attribution of bond mutual funds. I build a comprehensive sample of U.S. actively managed bond mutual funds with a large cross section and long time series, and examine the characteristics of funds that are most associated with superior active bond fund performance. I construct several sets of covariates to measure different aspects of managerial ability, including risk management, credit analysis, activeness, beta timing, liquidity provision, and family synergy. Given the large set of covariates, I employ machine learning methods such as Boosted Regression Trees to select the best predictors of bond fund performance. Unlike equity funds, I find that risk management plays an important role in generating superior performance. In addition, funds that are better at credit analysis and charge lower fees outperform their peers.Item Triptych in Empirical Finance(2022) Delalay, Sylvain; Maksimovic, Vojislav; Santosh, Shrihari; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation contains three chapters that explore topics in empirical finance and political economy. In Chapter 1, I study how the fundraising revenues of political campaigns affect the outcome of U.S. elections. First, I assemble a novel and granular dataset that provides a comprehensive picture of cash flows and voting intentions during U.S. congressional races. Then, I extract weekly shocks to the fundraising revenues of campaigns by using machine learning on the dataset. I find that the effect of revenues on the vote share decreases over the course of general elections. In races involving an incumbent, an additional $100,000 in challenger revenues increases her vote share by 1.48pp in the first half of the general election, but has no effect in the second half. Early cash infusions are more valuable than late cash infusions because they provide flexibility to respond to the opponent’s actions and mitigate current and future financing constraints. In Chapter 2, I examine how strategic and financial considerations shape the spending behavior of political campaign committees. To discipline the empirical analysis, I derive a dynamic model of strategic investment under financing constraints. I test the predictions of the model using the revenue shocks constructed in Chapter 1. I find that a committee’s elasticity of advertising expenditures to the revenue shocks of its opponent is 8%, which is a third of a committee’s elasticity to its own shocks. Moreover, a committee that is relatively richer than its opponent reacts more aggressively to its opponent’s shocks, both in levels and as a fraction of cash reserves. This result suggests that the availability of internal financing can amplify the competitive aspect of political spending in electoral races. In Chapter 3, I identify investor overreaction in a setting where information flows are not observable and learning pertains to multiple dimensions of an asset. Specifically, I measure how investors react to the information released during merger attempts and whether they form rational beliefs about the probability of deal completion. Using a model of distorted learning that generates testable implications, I find evidence of relative mispricing in the cross-section of merger targets. Empirically, a low price-implied probability of success underestimates the actual probability of success, and vice versa, suggesting that investors overreact to deal-specific information. The overreaction is unrelated to the unconditional merger premium and not driven by exposure to traditional risk factors.Item Essays on Financial Markets(2022) Peppe, Matthew David; Kyle, Albert S; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation contains three essays on financial markets concerning the relationship between short interest and returns in over-the-counter (OTC) equities, the effect of obtaining a rating on municipal bond offering yields, and the use of alternative trading systems (ATS) in the corporate bond market.Chapter 1 studies short positions among over-the-counter domestic common stocks. Short selling plays an important role in maintaining price efficiency, but short-selling in over-the-counter equities is often perceived as extremely rare. Short selling constraints are indeed high in this market, with the median fee to borrow a security being 2% for stocks with no short interest and 10% for stocks with short interest exceeding 1% of shares outstanding. Despite these constraints, 27% of domestic OTC equities have outstanding short interest positions on a given reporting date. Consistent with theories of short selling constraints such as Miller (1977), these high short selling constraints imply a substantial negative relationship between short interest and future returns. A portfolio of securities with short interest exceeding 1% of shares underperforms a portfolio of securities with no short interest by 31% annually and panel regressions show the relationship is robust to accounting for other security characteristics. The negative relationship between short interest and future returns suggests short sellers are trading in the direction of correcting mispricing in the OTC market, but the large magnitude and long time horizon over which short positions outperform suggests that there are large potential price efficiency gains from reducing constraints on short selling. Chapter 2, joint work with Haluk Unal, studies how whether a municipal bond is rated affects its offering yield. Approximately 34% of local municipal bond issues were issued without ratings during 1998 to 2017. We study the circumstances that affect the decision to obtain a rating and whether unrated bonds, controlling for observable risk factors, are more expensive to issue than rated bonds. Results show that issuers are less likely to obtain ratings for smaller issues, negotiated offerings, and bonds with high proxies for risk such as coming from areas with low personal income. We estimate the effect of forgoing a rating on offering yields using a doubly-robust Inverse Probability Weighted Regression Adjustment that controls for confounding that arises from risk and other characteristics affecting both the choice to obtain a rating and the yield. We separately analyze revenue bonds, general obligation bonds, bank qualified, and non-bank qualified bonds and find ratings decrease offering yields by 47, 49, 60, and 42 basis points respectively. The higher offering yields cost municipalities $22.5B in higher interest expense during our sample period. We find the choice of issuers to forgo ratings despite the substantial potential savings appears to be influenced by the underwriters they work with. Underwriters may face a conflict of interest where not obtaining a rating lowers the price investors are willing to pay from the bond, but also lowers the price the underwriter must pay the issuer and thus increases the underwriter’s profit. Chapter 3 is joint work with Matthew Kozora, Bruce Mizrach, Or Shachar, and Jonathan Sokobin. This chapter studies the circumstances when corporate bonds trade via an electronic ATS rather than in the traditional phone market and the relationship between venue choice and transaction costs. Trades on ATS platforms are smaller and more likely to involve investment-grade bonds, suggesting market participants trade via ATS when concerns about information leakage and adverse selection are lower. Trades on ATS platforms are more probable for older, less actively traded bonds from smaller issues, indicating participants are more likely to trade via ATS when search costs are high. Moreover, dealer participation on ATS platforms is associated with lower customer transaction costs of between 24 and 32 basis points.Item ESSAYS ON EMPIRICAL ASSET PRICING(2021) Li, Shuaiqi; Heston, Steven; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation contains two essays empirically exploring the equity option markets. Chapter 1 studies the role played by institutional investors in determining equity option returns. In this chapter, I study whether institutional stock holdings predict equity option returns. I find that institutional concentration in the underlying stock negatively predicts the cross-section of corresponding option returns. Evidence is consistent with a hedging and demand pressure channel: For stocks with more concentrated ownership, some institutional holders are more likely to overweight them and demand more of their options to hedge. To absorb the order imbalances, dealers sell options and charge higher prices, leading to lower option returns. Using option holdings of U.S. equity mutual funds, I document a positive correlation between funds' stock concentration and their option share in the same firms. In Chapter 2 (joint with Steven Heston), we improve continuous-time variance swap approximation formulas to derive exact returns on benchmark VIX option portfolios. The new methodology preserves the variance swap interpretation that decomposes returns into realized variance and option implied-variance. We apply this new methodology to explore return momentum on option portfolios across different S&P 500 stocks. We find that stock options with high historical returns continue to outperform options with low returns. This predictability has a quarterly pattern, resembling the pattern of stock momentum found by Heston and Sadka (2008). In contrast to stock momentum, option momentum lasts for up to five years, and does not reverse.Item ESSAYS ON EMPIRICAL ASSET PRICING(2020) xue, jinming; Wermers, Russ; Kyle, Albert; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)In essay 1: This paper measures the time-varying provision of liquidity by buy-side customers (e.g., mutual funds and pension funds), relative to bond dealers, in corporate bond markets using a structural vector autoregression (SVAR) model. As indicated by my simple theory model, shocks to the relative willingness of customers and bond dealers to provide liquidity affect, in opposite directions, the choice of bond dealers between market-making (principal) and matchmaking (riskless principal) transactions. Motivated by this model, my SVAR empirically disentangles these shocks to customers versus bond dealers. My SVAR-derived patterns of these structural shocks provide fundamental insights into the mechanics in corporate bond markets following recent events, such as exposing the increased role of buy-side customers for liquidity provision after the many regulatory changes following the 2008 financial crisis. Furthermore, my empirical approach generates “factors” that provide an improved time-series asset-pricing model for yield spreads of corporate bonds of different credit ratings. In essay 2: We consider an approach to derive the conditional expectation of return quantities under the real-world probability measure, exploiting the form of the projected stochastic discount factor. Our treatment is formulaic in that the real-world expectation can be synthesized from the prices of the risk-free bond, the asset, and options on the asset. The method is free of distributional assumptions, and we use it to study empirical questions related to (i) conditional probability of a disaster and return upside and (ii) spanning hypothesis in the Treasury market. We examine empirical consistency and show that our theoretical treatment is relevant. In essay 3: Based on data until the mid 2000s, oil price changes were shown to predict international equity index returns with a negative predictive slope. Extending the sample to 2015, we document that this relationship has been reversed over the last ten years and therefore has not been stable over time. We then posit that oil price changes are still useful for forecasting equity returns once complemented with relevant information about oil supply and global economic activity. Using a structural VAR approach, we decompose oil price changes into oil supply shocks, global demand shocks, and oil-specific demand shocks. The hypothesis that oil supply shocks and oil-specific demand shocks (global demand shocks) predict equity returns with a negative (positive) slope is supported by the empirical evidence over the 1986--2015 period. The results are statistically and economically significant and do not appear to be consistent with time-varying risk premia.Item Essays on Market Microstructure and Asset Pricing(2019) Hu, Bo; Kyle, Albert S; Loewenstein, Mark V; Business and Management: Finance; Digital Repository at the University of Maryland; University of Maryland (College Park, Md.)This dissertation contains three essays that explore various topics in market microstructure and asset pricing. These topics include statistical arbitrage, algorithmic trading, market manipulation, and term-structure modeling. Chapter 1 studies a model of statistical arbitrage trading in an environment with fat-tailed information. I show that if risk-neutral arbitrageurs are uncertain about the variance of fat-tail shocks and if they implement max-min robust optimization, they will choose to ignore a wide range of pricing errors. Although model risk hinders their willingness to trade, arbitrageurs can capture the most profitable opportunities because they follow a linear momentum strategy beyond the inaction zone. This is exactly equivalent to a famous machine-learning algorithm called LASSO. Arbitrageurs can also amass market power due to their conservative trading under this strategy. Their uncoordinated exercise of robust control facilitates tacit collusion, protecting their profits from being competed away even if their number goes to infinity. This work sheds light on how algorithmic trading by arbitrageurs may adversely affect the competitiveness and efficiency of financial markets. Chapter 2 extends the basic model in Chapter 1 by considering an insider who strategically interacts with a group of algorithmic arbitrageurs who follow machine-learning-type trading strategies. When market liquidity is good enough, arbitrageurs may be induced to trade too aggressively, giving the insider a reversal trading opportunity. In this case, the insider may play a pump-and-dump strategy to trick those arbitrageurs. This strategy is very similar to those controversial trading practices (such as momentum ignition and stop-loss hunting) in reality. We show that such strategies can largely distort price informativeness and threaten market stability at the expense of common investors. This study reveals a list of economic conditions under which this type of trade-based manipulations are likely to occur. Policy implications are discussed as well. Chapter 3 provides a simple proof for the long-run pricing kernel decomposition developed by Hansen and Scheinkman (Econometrica, 2009). In a stationary Markovian economy, the long forward rate should be flat so that the pricing kernel can be easily factorized in a multiplicative form of the transitory and permanent components. The permanent (martingale) component plays a key role as it induces the change of probabilities to the long forward measure where the long-maturity discount bond serves as the numeraire. I derive an explicit expression for this martingale component. It reveals a strong restriction on the market prices of risk in a popular approach of interest rates modeling. This approach neglects the permanent martingale component and restricts risk premia in a way undesirable for model calibration. Further analysis demonstrates the advantages of equilibrium modeling of a production economy since it is featured with a path-dependent pricing kernel that has a non-degenerate permanent martingale.