User talk:Dhuang2008

Sept 23
The book-to-market effect is stronger in stocks with shorter life expectancy and therefore shorter duration

The difference between the almost right word and the right word is really a large matter—'tis the difference between the lightning-bug and the lightning -- Mark Twin

When two men in business always agree one of them is unnecessary. -- William Wrigley, Jr.

Sept 1
A man’s got to know his limitations.” Harry Callahan

Subjective performance evaluations are based on personal impressions and judgments. They are difficult to anticipate ex ante, and they are nonverifiable ex post, so they are said to be non-contractible. Subjective performance evaluations and the rewards linked to them are sometimes referred to as implicit contracts. But even so, subjective judgments can be used as complete substitutes for objective formulas (e.g., Kren and Tyson 2009; Gibbs et al. 2004). More often, however, subjectivity is used to modify or supplement the objective formula results.

If both objective and subjective performance evaluations are used, how are they related? One possibility is that they are highly correlated. The subjective evaluators might be highly influenced by the objective performance ratings, causing them not to differentiate individuals’ performances on any other basis. This is the so-called halo effect that has been observed in some, particularly experimental, research settings

Heneman (1986) analyzed the results of 23 independent studies containing both objective and subjective ratings of employee performance. Even after adjusting for the effects of unreliability in the measures, he found low, positive correlations (.27) between subjective performance ratings and the objective measures

The main focus of the compensation contracting literature has traditionally been on explicit compensation contracts of workers whose individual contribution is relatively easy to observe. These studies have provided important insights into incentive provision and contract design [e.g., see Prendergast, 1999]. Although many of these insights remain valid when compensation contracts include subjectivity, supervisor discretion introduces many additional issues. The trade-off between risk and incentive, for example, is likely less predictive of contract design when supervisors do not truly differentiate between good and bad performers.

Subjectivity entails judgment based on personal impressions, feelings, and opinions, rather than on external facts. The correctness of a subjective assessment cannot be determined by a third party. This means that, by its very nature, a subjective assessment is unverifiable for contracting purposes.

In most contracting situations the agent possesses better information with respect to his actions, and/or the “state of nature,” than the principal, because complete observation of the agent’s actions is often either impossible, or prohibitively costly. In order to provide the agents with incentives in this information asymmetry condition, the principal writes a compensation contract that links the agent’s compensation to his performance. This, however, is only a second-best solution. Linking pay to performance transfers risk from the principal to the agent as outcome measures are imperfect indicators of effort. The principal has to compensate the agent for bearing this risk. The optimal compensation contract is, therefore, contingent on finding the 5 right trade-off between inducing unobservable effort, and minimizing the amount of risk the agent is required to bear. In order to maximize this trade-off, the principal will try to capture the agent’s effort to the best extent possible. This leads to the prediction that a particular performance measure will be included in a portfolio of performance measures if, and only if, it has information content about the agent’s actions over and above other measures upon which the compensation is based [Holmström, 1979].

The relative weight assigned to each performance measure is then determined by its sensitivity and precision (with sensitivity being the extent to which the expected value of a performance measure changes with the agent’s actions, and precision being the lack of noise in the performance measure) [Banker and Datar, 1989]. Moreover, an additional performance measure proves to be valuable when it induces actions that are more congruent with the principal’s gross payoff [Feltham and Xie, 1994].

Aug 24
Relate buyback to governance. Buyback is due to pressure from shareholders to pay out the cash flow.


 * $$ Cov[X, \beta(Y)] = Cov[\alpha(Y), \beta(Y)] $$

Where
 * $$ \alpha(y) = r_{X|Y}(y) = E[X|Y=y]-E[X] $$

which in case of bivariate distribution is equal to
 * $$ \alpha(y) = \frac{Cov[X, Y]}{Var(Y)}(y-E[Y]) $$

and
 * $$ \triangle_p[X, Y] = \frac{Cov[X, Y]}{Var(Y)} \frac{A_p[Y]}{A_p[X]} $$

Define $$ A_k = \bigr(E[|Z-E(Z)|^k]\bigr)^{1/k} $$

http://www.fromchinatousa.net/wiki/visa/%E5%9C%A8%E8%8A%9D%E5%8A%A0%E5%93%A5%E7%A7%BB%E6%B0%91%E5%B1%80%E4%B8%BA%E7%94%B3%E8%AF%B7%E5%8D%81%E5%B9%B4%E6%B0%B8%E4%B9%85%E7%BB%BF%E5%8D%A1%E6%89%93%E6%8C%87%E8%86%9C%E7%BB%8F%E5%8E%86/

Theorem
For $$p,q\in (1,\infty) $$ such that $$ p^{-1} + q^{-1} = 1$$, we have
 * $$ \bigr| Cov[X,~ \beta(Y)]\leq \triangle_p[X, Y]\Gamma_p[X, Y, \beta] \bigr|, $$

where
 * $$ \triangle_p [X, Y] = \frac{A_p[r_{X|Y}(Y)]}{A_p[X]}$$
 * $$ \Gamma_p[X, Y, \beta] = A_p[X]A_q[\beta(Y)]$$

When p = q = 2,
 * $$ Cov[X, \beta(Y)] = \frac{Cov(X, Y)}{Var(Y)} Cov(Y, \beta(Y))$$

Aug 23
A long-standing problem is to provide an empirical description of the value of an individual's human capital and the associated return on an individual's human capital. The value of human capital is in theory simply discounted future earnings. Thus, it is key to determine how an individual's earnings and an individual's SDF comove. The main difficulty is that SDF properties can only be inferred indirectly through data on financial asset returns or individual choices.

Absolutely Continuous Random Variable
A random variable X is called an absolutely continuous random variable if there is a nonnegative function f on R such that
 * $$ P(X \leq x) = \int_{-\infty}^x f(t)dt $$

for every x in R.

Three Research Questions
1. Upper bound of SDF

2. Xiaoji Li and Lu Zhang's Anormaly paper

3. Lubos Pastor's long-term volatility paper

August 19:
<> by Campello, Graham and Harvey

The impact of the crisis on the real decisions made by corporations around the world. 1. develop a survey-based measure of financial constraint. 2. identify cross-sectional variation in corporate behavior during the crisis. 3. examine corporate spending during the crisis

Result:

1. The average constrained firm in the US planned to dramatically reduce employment (11%), Technology spending (22%), capital investment (9%), marketing expenditures (33%), AND DIVIDEND PAYMENTS (14%) in 2009.

2. The typical firm in the US sample had cash and marketable securities equal to about 15% of total assets in 2007. Constrained firms burn through about one-fifth of their liquid assets over these months, ending the year with liquid assets equal to about 12% of asset value.

3. Credit condition on investment decisions. During the financial crisis, 86% of constrained U.S. firms said that they bypassed attractive investments due to difficulties in raising external finance, compared to 44% of unconstrained firms that say the same.

4. how firm finances attractive investments when unable to borrow. More than half of US firms rely on internally generated cash flows to fund investment, and four in ten say they use cash reserves. 56% of constrained US firms say they cancel investment projects when they are unable to obtain external funds, significantly greater than the 31% of unconstrained firms that may cancel investment. Conclusion: the firms that are cutting investment the most during the crisis are those that were over-investing before it.

LIQUIDITY MANAGEMENT AND CORPORATE INVESTMENT DURING A FINANCIAL CRISIS

Study Interactions between internal and external sources of liquidity and show how those interactions affects firms' decisions regarding capital investment, technology spending, and employment.

August 15:
Dodd Frank: On the one hand, the regulator would like to mitigate moral hazard and bring back market discipline. On the other hand, the regulator would like to manage systemic risk. So how well does Dodd‐Frank do in terms of balancing these two forces? From my viewpoint, it does not perform very well.

Thakor Proposal:

Q: 1) how do the disciplining roles of bank capital and leverage interact? 2) what does this interaction imply about the bank's optimal leverage choice? 3) how does regulatory intervention in the form of ex post bank bailouts affect the bank's capital structure? Do the bailouts justify regulatory capital requirements, and if so, what form should these requirements take?

August 13:
The effects of CC on the asset side of the balance sheet

Key assumptions in Leland (1994)

1. Exogenous Cash flow [Endogenous investment: 1) investment option exercised late with debt financing; 2) Hackbarth & Mauer debt priority can eliminate over/under investment]

Continuous investment, riskless bank debt (modified “Q-theory”) Early work: Hayashi (Emet 1982), Abel and Eberly (AER 1994) Hennessy & Whited (JF 2005), Hennessy, Levy, & Whited (JFE 2007), Gamba and Triantis (JF 2008), Bolton, Chen, &Wang 1) Costly but riskless external financing     2) Cash provides flexibility in lowering future external financing costs 3) Financing constraints/costs determine “effective” marginal q

Endogenous Cash holding/Dividend Policy: Fan and Sundaresan (RFS 2000), Decamps & Villeneuve (F&S, 2007)

2. Constant payout rate and volatility (jump diffusion can explain short-term default, spread)

3. Constant riskless rate

4. D and E are contingent claims on underlying asset value

5. Cannot sell assets to meet debt servicing payments

6. No issuance costs/liquidity premia on D and E

7. Asset is tradable

8. No info asym. Imperfect Information: Duffie & Lando (Emet 2001), Lambrecht & Perraudin (2003),  Hennessy, Livdan & Miranda (here), Morellec & Schurhoff (wp 2009) o Reduced value of waiting to invest, firms investment delay less 9. Endogenous default Strategic Default: Anderson & Sundaresan (RFS 1996), Mella-Barral & Perraudin (JF 1997), Fan & Sundaresan (RFS 2000), Christensen, Flor, Lando &   Miltersen (2000), Francois & Morellec (JB 2004), Broadie, Chernov & Sundaresan (JF 2008)

10. Static leverage (constant amount of debt/coupon)

11. Constant bankruptcy cost

12. Infinite Debt (Leland-Toft 96, Maturity T)

13. Single Debt (Hackbarth, Hennessy, & Leland (RFS 2007): Show bank debt is optimally senior due to renegotiation)

14. No agency cost between mgr and firm

STOCKHOLDERS vs. BONDHOLDERS: Comparing value of decisions optimizing total firm vs. equity value 1) Asset Risk decisions and Hedging (“Asset Substitution”)    o Leland (1998), Ericsson (2000), Morellec & Smith (2007), Decamps & Djembissi (2007), Bolton, Chen & Wang (2009)  2) Investment decisions (“Over- vs. Under-Investment”) [Myers 1977] o Papers above on “lumpy investment”

STOCKHOLDERS vs. MANAGERS: Value lost by managers maximizing their utility/compensation 1) Morellec (2004), Morellec, Nikolov, Schurhoff (2008), Lambrecht & Myers (2008), Bhagat et al. (2009) 2) DeMarzo & Sannikov (JF 2006), Albuquerque & Wang (2008), DeMarzo, Fishman, He & Wang (wp 2008): No risky debt (“Q-theory”) o Endogenous management compensation contract; agent can divert 3) Hackbarth (JFQA, 2008) has overly confident/optimistic managers   Hackbarth: http://www.business.illinois.edu/finance/profile.aspx?id=11908

15. No personal taxes

August 12: Standad Writing
Standard finance textbooks propose a relatively straightforward link between X and Y: increases in X directly increases Y. This remarkably simple idea has proved extremely powerful and has been used by countless researchers and practitioners to examine returns and measure the cost of capital across and within firms with varying capital structure.

Unfortunately, despite, or perhaps because of, its extreme clarity, this relation between leverage and returns has met with, at best, mixed empirical success. This thus have evidence that.

1.

2.

3.

While some these findings are often at odds with the common wisdom embedded in the.., very little research offers theoretical guidance to interpret them and guide future empirical research.

In this paper, we begin to fill this gap by offering a new and richer view of levered returns. We suggest that the link between financial leverage and stock returns is generally complex and depends crucially on both how debt is used and on its impact on the firms' investment opportunities. Extant literature generally assumes that ...

Our analysis focuses instead on the effects of debt on the asset side of the balance sheet, as firms use debt to finance capital spending. Since this expansion naturally increases the ratio of assets in place to growth options, it may also change the underlying business risk of the firm and thus the risk to equity holders. While these effects can be dismissed in the benchmark MM setting, they become of paramount importance in the presence of financial frictions, when investment and financing strategies must be examined jointly.

Our theoretical results can be used to interpret the often contradictory empirical evidence on the role of leverage in determining expected returns. In a world of financial imperfections leverage and investment are often strongly correlated.

August 9, 2011
Hopefully this page will be my research assistance for ever!

$$\sigma^2$$


 * $$\hat{N}=\frac{k+1}{k} m = m + \frac{m}{k}$$

My focus today is on the use of debt as a form of financing—that is to say—on leverage. I will be making three points.