Knowledge that Transforms

The paper presented by Professors Marcis and Smith (M-S), analyzing the determinants of the demand for cash and short-term Treasury obligations held by U. S. manufacturing corporations, is praiseworthy. The authors have made an interesting application of a seemingly unrelated regression (SUR) technique developed by Arnold Zellner [3] in estimating demand functions jointly for each of the liquid assets of corporations belonging to nine asset size categories. Nonetheless, I have some reservations about the implications of the model employed in their present study and the reliability of their results. Some of my reservations concern the theoretical foundation of their model itself, while others are related to their methodology and estimation techniques.

An abstract is not available for this content so a preview has been provided. As you have access to this content, a full PDF is available via the ‘Save PDF’ action button.

Professors Simkowitz and Logue (S-L) remind us that capital asset pricing is a simultaneous process. Their approach differs from traditional capital market models [3 and 6 ], where an investment's risk and return characteristics depend solely on a structural relationship between asset and market portfolio returns. Simkowitz and Logue argue that, within groups of homogeneous securities, investment returns are determined simultaneously and that market portfolio return as well as certain firm-related factors are exogeneous determinants of investment returns. This comment will, first, examine their basis for a simultaneous model and, then, look at presented empirical results.

In their paper Messrs. Reilly and Slaughter set out two questions, namely:1. Prior to the introduction of technological advance in the securities market was there any difference in the market making between the NYSE and OTC on a sample of 30 stocks?2. Following that introduction what was the effect on the market making of these securities listed on the NYSE?The authors clearly stated the basic economic theory that underlies this exchange of assets and the price setting mechanism, and then concentrated on the empirical study. Their findings are inconsistent with their a priori expectations. This empirical study is well done; the methodology is sound and well presented. However, the authors appear to have overlooked one vital aspect of this type of study, i.e., institutional effects. I shall concentrate upon this area.

Richard G. Marcis, V. Kerry Smith, The Demand for Liquid Asset Balances by U.S. Manufacturing Corporations: 1959-1970, The Journal of Financial and Quantitative Analysis, Vol. 8, No. 2 (Mar., 1973), pp. 207-218

Louis Bachelier would be pleased with the findings reported in John T. Emery's paper, even though Bachelier wrote in 1900 before there was any popular support for technical analysis. Considering technical analysis historically, the Dow Theory was the first popular technical approach, although Charles H. Dow, editor of The Wall Street Journal at about the time of Bachelier's writing, did not consider his theory a forecasting method. Later William P. Hamilton began to forecast with Dow's Theory, and then in 1932 Robert Rhea's publication of The Dow Theory popularized this technical approach. Earlier Bachelier had struck the first blow of an obviously continuing quest to execute the technical security analysts. (A technical security analyst, often called a chartest, develops esoteric charts or computer printouts which he hopes will allow him to make better than average returns in the stock market.) In the United States serious economic and statistical testing of technical analysis did not begin until the early 1950s; these academic tests continue today. Test results support the efficient capital market theory or, put more bluntly, technical analysis does not lead to greater than average profits in the stock market. On the other hand, perhaps technical analysis does work, but no statistical method used in testing has uncovered this fact. In short, perhaps our statistical tools are not sophisticated enough to disclose the relation between stock price and “daily market indicators.”

This study deals with behavioral assumptions that necessarily underlie the theory of asset valuation. Recognized logical and empirical implausibilities associated with the particular set of assumptions that provides the underpinnings of much currently espoused asset theory are reviewed. A valuation model based on a more realistic set of behavioral assumptions is then proposed and tested empirically.

In this paper, a model is developed for deriving the implied fixed cost of a bond flotation. Using a sample of electric utility companies over the 1961–1970 period, implied fixed costs are computed for 318 bond issues. These fixed costs then are evaluated in an effort to cast light on whether companies behave optimally with respect to the size and frequency of bond issues. Regression results are consistent with the adjustment of debt issuing behavior in keeping with: (1) expectations about the future course of interest rates; (2) variable costs increasing at a decreasing rate with the size of individual issue; and (3) differences in the cost of carrying excess liquidity which arise from differences in quality rating. An estimate of the average fixed cost of issuing bonds is evaluated as is the debt issuing behavior of individual companies. Over all, the model and its testing give considerable insight into the implied fixed costs of issuing debt.

In their present paper. Professors Cheng and Deets (hereafter C-D) attempt to derive a measure of instantaneous systematic risk for securities and portfolios which is consistent with the Sharpe-Lintner-Mossin capital asset pricing model when the true market horizon is infinitesimally short. In so doing, they assert that Jensen's resolution of the horizon problem for such a market horizon is incorrect. In the comments which follow, I shall attempt first to indicate explicitly the causes for the differences in the Jensen and C–D results, and second, to evaluate their relative merits.

One of the major problems in finance is that of combining the separate costs of debt and equity into an appropriate cutoff rate for new investment; this problem is particularly acute when the firm is changing its capital structure. Solutions to this problem which have been proposed include various types of both marginal costing and average costing.