[Information on borrower quality is a fundamental issue in debt contracting, corporate and consumer finance, and financial intermediation. We investigate the link between account activity and information production on borrower risk. Based on a unique data set, we find that credit line usage, limit violations, and cash inflows exhibit abnormal patterns approximately 12 months before default events. Measures of account activity substantially improve default predictions and are especially helpful for monitoring small businesses and individuals. Furthermore, early warning indications result in higher loan spreads, and in a higher likelihood of limit reductions and complete write-offs. Our study shows that account activity provides a real-time window into the borrower's cash flows, thus explaining why banks have an advantage in providing certain types of debt financing.]

Abstract This study uses data that offers the unique opportunity to analyze how an unprecedented crisis suchas the September 11 tragedy influences expected returns and volatility forecasts of individual investors. Via e-mail, we asked a randomly selected group of individual investors with accounts at a German online broker to answer an internet questionnaire at the beginning of August 2001. A second e-mail to the investors who had not yet answered, scheduled five weeks later, was postponed due to the terror attacks until September 20, which was exactly the day with the lowest share prices in Germany in the year 2001. Based on the answers to questions concerning stock market predictions, we find that return forecasts of the investors in our sample are significantly higher after September 11, suggesting a belief in mean reversion. Our results show that investors interpret the largedrop in share prices during the ten day period after September 11 mainly as temporary rather than permanent. After the terror attacks, volatility forecasts are higher than before September 11. In two out of four cases, historical volatilities are overestimated. Therefore, investors are not generally overconfident in the way that they underestimate the variance of stock returns. Differences of opinion with regard to return forecasts are lower after the terror attacks whereas differences of opinion concerning volatility forecasts are mainly unaffected.

Abstract This article investigates two research questions: do investors see a relationship between risk attitude and the amount invested into risky assets? Further, do investors adjust their investments if provided with assets that have different volatilities? In an experimental study, investors allocate an amount between a risky and a risk-free asset. Investors’ risk attitude predicts risk taking. Investors are, however, unable to adapt to risky assets with different volatilities; they choose almost the same allocation to the risky asset independently of its volatility, thus amassing significantly different portfolios.

In economic analyses of asymmetric information, better-informed agents are assumed capable of reproducing the judgments of less-informed agents. We discuss a systematic violation of this assumption that we call the "curse of knowledge." Better-informed agents are unable to ignore private information even when it is in their interest to do so; more information is not always better. Comparing judgments made in individual-level and market experiments, we find that market forces reduce the curse by approximately 50 percent but do not eliminate it. Implications for bargaining, strategic behavior by firms, principal-agent problems, and choice under uncertainty are discussed.

Information on borrower quality is a fundamental issue in debt contracting, corporate and consumer finance, and financial intermediation. We investigate the link between account activity and information production on borrower risk. Based on a unique data set, we find that credit line usage, limit violations, and cash inflows exhibit abnormal patterns approximately 12 months before default events. Measures of account activity substantially improve default predictions and are especially helpful for monitoring small businesses and individuals. Furthermore, early warning indications result in higher loan spreads, and in a higher likelihood of limit reductions and complete write-offs. Our study shows that account activity provides a real-time window into the borrower's cash flows, thus explaining why banks have an advantage in providing certain types of debt financing.

Abstract The more trust investors place in a money manager, the more confident they are to take risk. We test this theory in a laboratory experiment using the amount returned from a trust game as measure of trustworthiness. Investors increase the share invested in risky assets with high-cost money managers compared to those with low costs when the high-cost money managers are more trustworthy than the low-cost ones. The willingness to take more risk with high-cost money managers is increasing in the difference in trustworthiness. Up to a third of the difference in trustworthiness translates into an increasing risky share. Vice versa, investors are willing to accept higher costs for investments made through more trustworthy money managers. Our findings are robust to alternative explanations, demonstrating that the risk-aversion channel can be sufficient for trust to influence behavior.

Abstract Exploiting regional holidays in Germany as a source of exogenous cross-sectional variation in investor attention, we provide evidence that the well-known local bias at the individual level materially affects stock turnover at the firm level. Stocks of firms located in holiday regions are temporarily strikingly less traded than otherwise very similar stocks in non-holiday regions. This negative turnover shock survives comprehensive tests for differences in information release. It appears particularly pronounced in stocks less visible to nonlocal investors and for smaller stocks disproportionately driven by retail investors. Our findings contribute to research on local bias, trading activity, and investor distraction.

There are very few studies concerning the recovery rate of bank loans. Prediction models of recovery rates are increasing in importance because of the Basel II-framework, the impact on credit risk management, and the calculation of loan rates. In this study, we focus the analyses on the distribution of recovery rates and the impact of the quota of collateral, the creditworthiness of the borrower, the size of the company and the intensity of the client relationship on the recovery rate. All our hypotheses can be confirmed. A higher quota of collateral leads to a higher recovery rate, whereas the risk premium of the borrower and the size of the company is negatively related to the recovery rate. Borrowers with an intense client relationship with the bank exhibit a higher recovery rate.

This paper analyzes the response of stock and credit default swap (CDS) markets to rating announcements made by the three major rating agencies during the period 2000–2002. Applying event study methodology, we examine whether and how strongly these markets respond to rating announcements in terms of abnormal returns and adjusted CDS spread changes. First, we find that both markets not only anticipate rating downgrades, but also reviews for downgrade by all three agencies. Second, a combined analysis of different rating events within and across agencies reveals that reviews for downgrade by Standard & Poor’s and Moody’s exhibit the largest impact on both markets. Third, the magnitude of abnormal performance in both markets is influenced by the level of the old rating, previous rating events and, only in the CDS market, by the pre-event average rating level of all agencies.

This study examines the relation of bank loan terms to borrower risk defined by the banks’ internal credit rating. The analysis is not restricted to a static view. It also incorporates rating transition and its implications on the relation. Money illusion and phenomena linked with relationship banking are discovered as important factors. The results show that riskier borrowers pay higher loan rate premiums and rely more on bank finance. Housebanks obtain more collateral and provide more finance. Caused by money illusion in times of high market interest rates loan rate premiums are relatively small whereas in times of low market interest rates they are relatively high. There was no evidence for an appropriate adjustment of loan terms to rating changes.