We present a dynamic model of production in which a firm’s output increases when its managers share their information. Communication of ideas depends on the quality of the firm’s internal language. We prove that firms with richer languages (i.e., more organizational capital) will have higher market values. Organizational capital generates static complementarities among incumbents which implies that firms with richer languages will experience greater employee retention and higher wages. Dynamic complementarities between intertemporal investments in language generate long-run persistence in firm market-to-book and turnover ratios. We demonstrate that the optimal compensation of incumbents includes an earnings-insensitive component that is larger in firms with richer languages. In a simple model of mergers, we show that the most value-creating mergers are those between firms with highly disparate languages.

This paper provides a rationale for markets in baskets of securities (e.g. the stock index futures markets) by demonstrating that they provide a convenient trading medium for liquidity traders. The reason advanced is that the transaction costs suffered by these liquidity traders due to adverse trades with informed traders will typically be lower in markets for baskets than in markets for individual securities. The paper implies that large financial institutions may be expected to trade heavily in baskets to satisfy the liquidity needs of their clients. Thus, the paper provides a plausible explanation for the remarkable growth in the popularity of the stock index futures market over the past few years

This paper studies the relation between order imbalances and daily returns of individual stocks. Our tests are motivated by a model which explicitly considers how market makers dynamically accommodate autocorrelated imbalances emanating from large traders who optimally choose to split their orders. Price pressures caused by autocorrelated imbalances cause a positive relation between lagged imbalances and returns, which reverses sign after controlling for the current imbalance. We find empirical evidence consistent with these implications. We also find that imbalance-based trading strategies yield statistically significant returns. Our results shed light on the role of inventory effects in daily stock price movements.

Note: This paper has been published in the "International Review of Finance." It is published in: Vol 3, No.1, March 2002,pp. 27-52 of the journal.

This paper explores how fincial market prices directly inflnce a firm’s cash flows. Feedback from financial market prices to crash flows arises when firms’ non-financial stakeholders, e.g., its customers, employees, and suppliers, make decisions that are contingent on the information revealed by the price. When there are complementarities across these stakeholders, such feedback leads to cascades in which relatively small stock price moves trigger substantial changes in asset values. The paper analyzes the relation between such feedback effects and parameters such as the cost of information acquisition, the volume of liquidity trading, the volatility of the value of existing projects, the risk aversion of liquidity suppliers, and the precision of managerial information releases.

We analyze the relation between analyst attributes (years of experience, reputation of the analysts’ brokerage houses) and the short- and long-term price reactions to recommendations made by the analysts. We find that in the long-term, the recommendation changes of highly experienced analysts outperform those of low-experience ones. In addition, investors appear to overreact to dramatic upgrades of low-ability analysts, and underreact to small upgrades by high-ability analysts. These results are consistent with the Griffin and Tversky (1992) argument that agents place too much emphasis on the strength of the signal (the dramatic nature of the event) and insufficient emphasis on the weight (the ability of the analyst making the recommendation). The study helps promote an understanding of the analyst industry and its interaction with the investing population.

This paper investigates the effect of company brand perceptions on investor incentives to hold stocks. We find that, after controlling for other postulated determinants of stockholdings, there is a negative and significant cross-sectional relation between percentage institutional holdings and brand visibility. This finding indicates a propensity for individual investors to hold stocks with strong brand recognition, which is consistent with the hypothesis that individuals prefer to invest in companies whose products are readily recognized. Furthermore, we find that institutional holdings are positively related to firm size and beta, while being negatively related to total return volatility. Our analysis supports the notion that institutional portfolios eschew the relatively neglected sector characterized by small firms with high total volatility, whereas individual investors prefer holding stocks with low systematic risk and high recognition. The results contribute to our understanding of how financial market investors form their equity portfolios.

Do CEOs time firm disclosures around their stock sales? I identify evidence of their manipulation in the timing of mandatory disclosures, whose high litigation risk deters CEOs from delivering misleading or fraudulent information. To disentangle timing of disclosures around predetermined sales from timing of sales around scheduled disclosures, I show that a CEO’s exogenously strengthened intention to sell (after option vesting dates) is followed by disclosures with a heightened negative tone, but not preceded by disclosures with a heightened positive tone. When a CEO’s urgency to sell (before option expiration dates) constrains her flexibility to time sales around disclosures, the negative tone of post-sale disclosures intensifies further, but the positive tone of pre-sale disclosures does not intensify. These results suggest that a CEO follows a passive strategy in mandatory disclosures: she withholds negative information to prevent the stock price from falling, instead of accelerating or generating positive information to push up the stock price before her sales.

We study how daily returns and volume behave around the Jewish High Holy Days. We find that on both Rosh HaShanah and Yom Kippur, volume is down significantly, relative to that on all trading days in the sample period. When we consider a cumulative measure that allows for preemptive or delayed trading activity, we find that returns are significantly positive around Rosh HaShanah and significantly negative around Yom Kippur. Overall, the results are consistent with our a priori intuition that Jews play a major role in equity trading, so that their sentiment around important Jewish holidays has a significant impact on the U.S. equity market.

In Chapter 1, we investigate how price discovery in the credit default swap (CDS) market has been impacted by regulation implemented since the Global Financial Crisis. We find that single-name CDS spreads impound less private information prior to rating downgrades and adjust more slowly after downgrades are announced. We also show that CDS spreads lead corporate bond spreads less strongly following the adoption of stringent margin requirements that apply only to derivatives. This decline is sharpest for reference entities that are most exposed to the new rules. Price discovery appears to be unharmed for CDS indices, which are largely centrally cleared and, thus, less affected by many of the reforms. We rationalize the findings with a model in which increased transaction costs for single names drive informed agents to trade indices. Together, the results highlight a lesser-studied channel through which post-crisis regulation has influenced financial markets.

In Chapter 2 (with Wenxin Du, Michael Gordy, and Clara Vega), we investigate how market participants price and manage counterparty credit risk in the post-2008 global financial crisis period using confidential traderepository data on single-name CDS transactions. We find that counterparty risk has a modest impact on the pricing of CDS contracts, but a large impact on the choice of counterparties. We show that market participants are significantly less likely to trade with counterparties whose credit risk is highly correlated with the credit risk of the reference entities and with counterparties whose credit quality is low. Our results suggest that credit rationing may arise under wider circumstances than previously recognized.

In Chapter 3 (with Jason Sockin), we use a sample of prominent scandals to study how employees are impacted by corporate misconduct. We find that worker sentiment decreases sharply and persistently following a scandal, driven by diminished perceptions of a firm’s culture and senior management. Further, fewer employees receive variable pay and those that do see it fall 10 percent on average. Base pay and fringe benefits remain unchanged, however, highlighting that variable-pay earners are differentially exposed to firm-level shocks. As rank-and-file employees receive no compensation to offset the declines in job satisfaction and variable pay, we conclude that corporate misconduct leaves them strictly worse off.