Knowledge that Transforms

We show that leading investor disagreement proxies have near-zero cross-correlation – making disagreement pricing inferences challenging. We develop a frictionless model that generates overpricing from latent disagreement, jointly rationalizes major proxies, and generates new testable predictions. Equilibrium interrelationships motivate a new disagreement measure, DIS, which is more predictive of returns cross-sectionally than major proxies and more consistently predictive across macroeconomic regimes. We provide evidence that the friction-based channel of Miller (1977) and a frictionless mechanism coexist and are empirically separable. DIS also provides a micro-founded, disagreement-based account of the IVOL puzzle, absorbing IVOL’s predictability while revealing its regime and friction dependence.

We develop a model to study the efficiency of socially responsible investing (SRI) as a mechanism to control firms' externalities. When SRI is not too popular, responsible investors favor strategies that lead to a concentration of SRI in a subset of firms in the economy. This concentration can mitigate coordination issues in adopting green technologies, but it can also crowd out the green investments of excluded firms and increase the price of green products. In equilibrium, responsible investors continue to favor concentration even as SRI becomes more popular, and concentrate the most when concentration is least desirable.

Litigation risk is an important source of motivation for auditors to conduct high‐quality audits, but theory suggests that certain lawsuits will have a more salient disciplining effect on auditor behavior. To this end, we identify lawsuits naming an individual partner as a co‐defendant along with the audit firm. We then examine how these lawsuits affect subsequent behavior of other auditors in the office of the sued partner. Relative to lawsuits naming only the firm, our results indicate that lawsuits naming individual partners as co‐defendants are significant office‐level events that motivate a meaningful response from non‐sued audit partners in the form of higher quality and fees on existing clients and more careful client portfolio management. These results have practical implications about how auditor litigation incentivizes individual auditors to fulfill their professional duties. For regulators and audit firms seeking to promote audit quality, these findings highlight the disciplining effect of auditors' concern for their personal reputation and litigation exposure. Furthermore, audit committees, clients, and investors may observe elevated audit quality, effort, and fees following partner‐level litigation in the local office.

Auditor-client negotiations over contentious accounting issues can shape reported financial outcomes, yet little is known about how communication dynamics between audit committee (AC) members and auditors influence client negotiation behavior. We conduct an experiment in which experienced financial executives, assuming the role of chief financial officer, negotiate a disputed inventory obsolescence allowance with a simulated audit partner in the presence of an AC member; the AC member's distributive communication style (offensive vs. defensive) and the audit partner's reflective empathy (high vs. low) are manipulated between participants. Drawing on relational framing theory in interpersonal communication, we predict and find that a distributive-offensive AC communication style leads clients to establish their reporting positions and concede less to the auditor's proposed adjustment, unless it is accompanied by high reflective empathy from the audit partner, which neutralizes this resistance. This pattern emerges in the client's initial negotiation position and persists through the final negotiated allowance. Our findings suggest that auditors can use empathetic communication as a strategic tool to defuse the competitive posture that an assertive governance signal may provoke. Overall, our results provide insights into how AC members' and auditors' communication styles jointly shape client negotiation behavior, highlighting the importance of communication strategies in achieving effective audit negotiation outcomes.