Knowledge that Transforms

The authors develop a multiperiod auction model in which multiple privately informed agents strategically exploit their long-lived information. They show that such traders compete aggressively and cause most of their common private information to be revealed very rapidly. In the limit, as the interval between auctions approaches zero, market depth becomes infinite and all private information is revealed immediately. These results are in contrast to those of Albert S. Kyle (1985) in which the monopolistic informed trader causes his information to be incorporated into prices gradually and, when the interval between auctions is vanishingly small, market depth is constant over time.

Some equilibrium prices in the capital asset pricing model may be negative because of nonmonotonicity of preferences. The authors identify several sets of sufficient conditions for prices to be positive. The central conditions impose bounds on the investors' risk aversion. These bounds do not need to hold globally but only in a relevant range of portfolios or combinations of mean and standard deviation. The relevant range is specified on the basis of exogenous parameters and variables, and it must contain any endogenously determined equilibrium. The bounds on risk aversion ensure that the preferences for assets are sufficiently well-behaved within the relevant range.

The authors estimate and compare a variety of continuous-time models of the short-term riskless rate using the Generalized Method of Moments. The authors find that the most successful models in capturing the dynamics of the short-term interest rate are those that allow the volatility of interest rate changes to be highly sensitive to the level of the riskless rate. A number of well-known models perform poorly in the comparisons because of their implicit restrictions on term structure volatility. They show that these results have important implications for the use of different term structure models in valuing interest rate contingent claims and in hedging interest rate risk. Coauthors are Andrew Karolyi, Francis A. Longstaff, and Anthony B. Sanders.

This paper investigates the effect of setup costs on the pricing of investment banking services. The existence of setup costs is predicted to result in lower underwriter spreads in initial public offerings for firms that are expected to issue again. Consistent with this prediction, the author finds significantly lower spreads for firms that make subsequent issues. He also finds that a firm's likelihood of changing underwriters in a subsequent offer is related to the time between offerings and the underwriter's pricing performance in the initial public offerings. These results suggest that the deviations from optimal initial public offerings pricing carry a penalty for the underwriter.

This paper studies a sample of large acquisitions completed between 1971 and 1982. By the end of 1989, acquirers have divested almost 44 percent of the target companies. The authors characterize the ex post success of the divested acquisitions and consider 34 percent to 50 percent of classified divestitures as unsuccessful. Acquirer returns and total (acquirer and target) returns at the acquisition announcement are significantly lower for unsuccessful divestitures than for successful divestitures and acquisitions not divested. Although diversifying acquisitions are almost four times more likely to be divested than related acquisitions, they do not find strong evidence that diversifying acquisitions are less successful than related ones.

This paper chronicles the history of the Beatrice company from its founding in 1891 as a small creamery, through its growth by acquisition into a diversified consumer and industrial products firm, and its subsequent leveraged buyout and sell-off. The paper analyzes the value consequences and firm's acquisition and divestiture policies, its organizational strategy, and its governance. The analysis sheds light on a number of issues in organization theory, strategy, and corporate finance, including the sources of value in diversifying acquisitions, the cost of overcentralization and weak corporate governance, and the mechanisms of value creation in the market for corporate control.

The existing literature on the post-merger performance of acquiring firms is divided. The authors reexamine this issue, using a nearly exhaustive sample of mergers between NYSE acquirers and NYSE/AMEX targets. The authors find that stockholders of acquiring firms suffer a statistically significant loss of about 10 percent over the five-year post- merger period, a result robust to various specifications. Their evidence suggests that neither the firm size effect nor beta estimation problems are the cause of the negative post-merger returns. They examine whether this result is caused by a slow adjustment of the market to the merger event. Their results do not seem consistent with this hypothesis.

This paper investigates the susceptibility of futures markets to price manipulation in a two-period model with asymmetric information and "cash settlement" futures contracts. Without "physical delivery," strategies based on "corners" or "squeezes" are infeasible. However, uninformed investors still earn positive expected profits by establishing a futures position and then trading in the spot market to manipulate the spot price used to compute the cash settlement at delivery. The authors also show that as the number of manipulators grows, profits from manipulation fall to zero. However, even in the limit, manipulation still has a nontrivial impact on market liquidity. More broadly, they interpret manipulation as a form of endogenous "noise trading" which can arise in multiperiod security markets.

The authors examine whether greater futures-trading activity (volume and open interest) is associated with greater equity volatility. They partition each trading activity series into expected and unexpected components, and document that while equity volatility covaries positively with unexpected futures-trading volume, it is negatively related to forecastable futures-trading activity. Further, though futures-trading activity is systematically related to the futures contract life cycle, the authors find no evidence of a relation between the futures life cycle and spot equity volatility. These findings are consistent with theories predicting that active futures markets enhance the liquidity and depth of the equity markets.

This paper presents evidence supporting the theory that problems of asymmetric information in debt markets affect financially unhealthy firms' ability to obtain outside finance and, consequently, their allocation of real investment expenditure over time. The author tests this hypothesis by estimating the Euler equation of an optimizing model of investment. Including the effect of a debt constraint greatly improves the Euler equation's performance in comparison to the standard specification. When the sample is split on the basis of two measures of financial distress, the standard Euler equation fits well for the a priori unconstrained.groups, but is rejected for the others.