We study the effects of financial innovation in a model of endogenous information acquisition. We determine the conditions under which the introduction of a derivative written on an existing stock increases or decreases the incentive to purchase information. We show that financial innovation produces some effects which hold across informational structures and others which differ. The former coincide with the few empirical results that are robust in the literature (effects on prices, risk premia, and volatility), while the latter coincide with the ones that differ experiment by experiment (effects on volume, correlation between volume and volatility, and market informational efficiency).

We study how a firm's decision to offer bonds of various maturities affects the portfolio allocations of institutional investors. We argue that because of lower information-collection costs, institutional investors tilt their portfolios towards firms that offer bonds of various maturities. We show that this translates into lower bond yields, both in the primary and in the secondary bond markets.

[Commercial banks acquire inside information about the firms they lend to. We study the impact of this informationally privileged position on the borrowing firm using a broad panel of U.S. firms over the 1993—2004 period. We measure the strength of the bank-firm relationship by bank-firm proximity, size of the loan, and the lender's insider potential. We show that a stronger relationship, by inducing better monitoring, improves the borrower's corporate governance. Simultaneously, it makes the bank a potentially more informed agent in the equity market. This information asymmetry increases adverse selection for the other market participants and lowers the firm's stock liquidity. This trade-off between improved corporate governance and greater information asymmetry affects the firm's value. Our results have normative implications for the role of banks in the development of financial markets.]

[We study the impact of contractual incentives on the performance of mutual funds. We find that high-incentive contracts induce managers to take more risk and reduce the funds' probability of survival. Yet, funds with high-incentive contracts deliver higher risk-adjusted return, and the superior performance remains persistent. The top incentive quintile of funds outperforms the bottom quintile by 2.70% per year. Moreover, high-incentive winner funds from one year have a positive alpha of 0.41% per month in the following year. Focusing on funds' holdings, we show that active portfolio rebalancing is the main channel through which incentives increase performance.]

We exploit the restrictions of intertemporal portfolio choice in the presence of nonfinancial income risk to test hedging using the information contained in the actual portfolio of the investor. We use a unique data set of Swedish investors with information broken down at the investor level and into various components of investor wealth, income, and demographic characteristics. Portfolio holdings are identified at the stock level. We show that investors do not hedge but invest in stocks closely related to their nonfinancial income. We explain this with familiarity, that is, the tendency to concentrate holdings in stocks to which the investor is geographically or professionally close or that he has held for a long period. We show that familiarity is not a behavioral bias, but is information driven. Familiarity-based investment allows investors to earn higher returns than they would have otherwise earned if they had hedged.

Abstract Does distrust in politically affiliated media induce a bias in investor beliefs? We study the acquisition of Dow Jones & Co. by News Corporation in 2007 as a shock to the political affiliation of Dow Jones outlets. Following the acquisition, the prices of Republican- (Democrat-) aligned stocks become less sensitive to favorable (unfavorable) Dow Jones Newswires (DJNW) sentiment, consistent with the market attaching less credibility to a politically affiliated source. There is, however, no evidence of change in DJNW sentiment, coverage, or language about Republican/Democrat stocks, suggesting a loss of stock price informativeness. Consistent with this view, a portfolio exploiting the attenuated reaction to DJNW news earns abnormal returns following 2007.

This is a first attempt to study how the structure of the industry affects mutual fund behavior. I show that industry structure matters; the mutual fund families employ strategies that rely on the heterogeneity of the investors in terms of investment horizon by offering the possibility to switch across different funds belonging to the same family at no cost. I argue that this option acts as an externality for all the funds belonging to the same family, affecting the target level of performance the family wants to reach and the number of funds it wants to set up. By using the universe of the U.S. mutual fund industry, I empirically confirm this intuition. I find evidence of family driven heterogeneity among funds and show that families actively exploit it. I argue that the more families are able to differentiate themselves in terms of non-performance-related characteristics, the less they need to compete in terms of performance. Product differentiation—i.e., the dispersion in the “services” (fees, performance) that the competing funds offer—affects performance and fund proliferation. In particular, I show that the degree of product differentiation negatively affects performance and positively affects fund proliferation.

We hypothesize that short selling has a disciplining role vis-à-vis firm managers that forces them to reduce earnings management. Using firm-level short-selling data for thirty-three countries collected over a sample period from 2002 to 2009, we document a significantly negative relationship between the threat of short selling and earnings management. Tests based on instrumental variable and exogenous regulatory experiments offer evidence of a causal link between short selling and earnings management. Our findings suggest that short selling functions as an external governance mechanism to discipline managers.

[Traditional portfolio balance theory derives a downward sloping currency demand function from limited international asset substitutability. Historically, this theory enjoyed little empirical support. We provide direct evidence by examining the exchange rate effect of a major redefinition of the MSCI Global Equity Index in 2001 and 2002. The index redefinition implied large changes in the representation of different countries in the MSCI Global Equity Index and therefore produced strong exogenous equity flows by index funds. Our event study reveals that countries with a relatively increasing equity representation experienced a relative currency appreciation upon announcement of the index change. Moreover, stock markets that are upweighted (downweighted) feature a higher (lower) permanent comovement of their currency with the basket of other MSCI currencies.]

[We study holdings in merger and acquisition (M& A) targets by financial conglomerates in which affiliated investment banks advise the bidders. We show that advisors take positions in the targets before M& A announcements. These stakes are positively related to the probability of observing the bid and to the target premium. We argue that this can be explained in terms of advisors who are privy to important information about the deal, investing in the target in the expectation of its price increasing. We document the high profits of this strategy. The advisory stake is positively related to the likelihood of deal completion and to the termination fees. However, these deals are not wealth creating: there is a negative relation between the advisory stake and the viability of the deal.]