Knowledge that Transforms

How does the structure of financial intermediaries’ liabilities affect their asset holdings? We investigate the consequences of the 2014 money market fund (MMF) reform, which imposed redemption gates and liquidity fees on prime MMFs and forced prime funds marketed to institutional investors to switch from constant to floating net asset value. These changes made prime MMFs’ liabilities less money-like. As a consequence, the affected MMFs experienced an increase in flow–performance sensitivity and started taking more risks. In addition, the total funding provided by MMFs to the corporate sector, and especially to safer issuers, has decreased.

The personal traits of chief executive officers (CEOs) have been found to influence corporate policy decisions. We examine the impact of CEO past corporate distress experiences on payout policy. CEOs who have experienced a distress event in their career, while working in a non-CEO position at a different firm, subsequently alter corporate payout policy once in the CEO position. They are less likely to pay dividends and repurchase shares, pay out lower levels of dividends, and are less likely to increase dividends. They further exhibit preference toward repurchases. Overall, we report that experience-driven conservatism affects payout policy, a novel finding in the literature.

We solve a flexible model that captures transactions costs and infrequencies of trading opportunities for illiquid assets to better understand the shadow costs of illiquidity for different origins of asset illiquidity and heterogeneous investor types. We show that illiquidity that results in suboptimal asset allocation carries low shadow costs, whereas these costs are high when illiquidity restricts consumption. As a result, the shadow costs are high for short-term investors, investors who face substantial liquidity shocks, and investors who desire to allocate a large fraction of their wealth to illiquid assets.

Does financial development facilitate micro-entrepreneurship? Using randomized surveys of over 1 million Indian households and bank-branch location as predetermined by government policy, we find that access to finance shifts workers from informal micro-entrepreneurship into formal employment. Financial access reduces the likelihood of being self-employed but benefits micro-enterprises with employees, as well as formal firms. Using data on 400,000 firms, we find that in districts with more banks, firms have higher loans, productivity, employment, and wages than firms in less banked districts. This evidence suggests a labor-market mechanism by which financial development facilitates growth: by shifting workers from unproductive micro-entrepreneurship into productive employment.

More frequent, larger, and more recent debt and equity issues in the prior 3 fiscal years are followed by lower stock returns in the subsequent year. The intercept of a q -factor calendar-time regression for the value-weighted (VW) portfolio of firms with at least 3 large issues is −0.63% per month ( t- stat. = −4.31). Purging the factor returns of recent issuers increases the magnitude of the estimated underperformance following frequent equity issues. A VW Fama–MacBeth regression shows that firms with 3 equity issues underperform nonissuers by 0.65% per month ( t -stat. = −2.65). Earnings announcement returns are low following frequent issues, especially equity issues.

Standard portfolio choice models predict that investors consider the tax implications of trading. However, individuals are disposed toward realizing gains and holding losing investments, behaviors that worsen their performance. We show, in an experimental market, that increasing tax salience reduces the disposition effect between 22% and 47%, leading to higher portfolio balances without increasing total trading activity. Using field data, we find that investors’ disposition is sensitive to taxes around tax rate changes when taxes are likely salient. Our analysis demonstrates that increasing tax awareness can affect households’ portfolio choices, which suggests policy implications for improving financial decision-making.

We introduce a new holdings-based procedure to identify whether a mutual fund has a benchmark discrepancy, which we define as a benchmark other than the prospectus benchmark best matching a fund’s investment strategy. We find that funds with a benchmark discrepancy tend to be riskier than their prospectus benchmarks indicate. As a result, the funds on average outperform their prospectus benchmarks, before further risk adjustments, despite underperforming the benchmarks that best match their portfolios.

Prior research documents that asset growth is negatively associated with future firm performance. In contrast, we show that growth financed by product market stakeholders (i.e., “operating growth”) is positively associated with future firm performance. Investors and security analysts underestimate the positive effects of operating growth on future performance, resulting in return predictability and overly pessimistic earnings forecasts for firms with high operating growth. Future stock returns largely concentrate around subsequent earnings announcements with declining magnitudes, consistent with the error-in-expectation explanation. Results from cross-sectional tests further support the hypothesis that operating growth signals high future performance but investors underreact to it.

I construct a new proxy for Tobin’s Q that incorporates the replacement cost of patent capital. This proxy, which I call patent Q , explains up to 62% more variation in investment than other proxies for Q. Furthermore, investment is more sensitive to patent Q than to other proxies for Q. Although investment is predicted more accurately by, and is more sensitive to, patent Q , controlling for patent Q leads to relatively larger, not smaller, cash flow coefficients. All results are stronger in subsamples with more patent capital. Overall, patent Q strengthens the historically weak investment– Q relation.

Theory says an American call should never be exercised early, except possibly just before an ex-dividend date. But the best market bid is regularly lower than the intrinsic value for in-the-money short-maturity options. An American option can always be exercised to recover the intrinsic value, whereas selling a European call in the market may return considerably less. The article derives the liquidity value of American exercise in closed form as a function of the bid–ask spread and shows empirically that it is of comparable magnitude to, and often greater than, the theoretical value of American exercise to collect a dividend.