Knowledge that Transforms

This paper studies the life-cycle consumption and portfolio choice problem taking account of annuity risk at retirement. The study allows for government-provided annuity income. Optimally, households allocate retirement wealth to nominal, inflation-linked and variable annuities, and condition this choice on the state of the economy. The case in which there are limitations in the types of annuities that are available is also considered and the costs of annuity market incompleteness are quantified. Subsequently, the paper determines how investors optimally anticipate annuitization before retirement. The conclusion is that ignoring annuity risk before and at retirement can be economically costly.

What determines the yields at which international investors are willing to lend to emerging market countries, and the amounts of such lending? We analyze the motivation underlying investors’ choices in allocating their holdings across countries, through regressions for both prices (bond yields) and quantities (bond market capitalization or stocks of external liabilities) estimated during two waves of financial globalization (1870–1913 and today). The results suggest that, throughout the past one and a half centuries, a combination of human capital (including informal human capital) and institutional quality has been a key determinant of emerging market countries’ ability to attract international investors.

This paper studies asymmetric profitability of the momentum trading strategy. When investors face Knightian uncertainty, they react differently to past winners and losers, which creates asymmetric patterns in price continuations. This asymmetry increases with the level of market and idiosyncratic uncertainty relating to the fundamental value of stocks. We provide a model explaining this phenomenon and empirical evidence supporting the hypothesis. Our results also imply that momentum is more likely to continue for downward trends in a highly uncertain market.

This article investigates the importance of both trust and sociability for stock market participation and for differences in stockholding across Europe. We estimate significant effects for the two, and find that sociability can partly balance the discouragement effect on stockholding induced by low regional prevailing trust. We test for exogeneity of trust and sociability indicators using variation in history of political institutions and in frequency of contacts with grandchildren, respectively. Moreover, the effect of trust is stronger in countries with limited participation and low average trust, offering an explanation for the remarkably low stockholding rates of the wealthy living therein.

We document that the deregulation of bank branching restrictions in the United States triggered a reallocation across sectors, with end effects on state-level volatility. The change cannot be explained simply by shifts in sector-level returns and volatility. A reallocation effect is at play, which we study in the context of mean-variance portfolio theory applied to sectoral returns. We find the reallocation is particularly strong in sectors characterized by young, small and external finance dependent firms, and for states that have a larger share of such sectors. The findings suggest that improving bank access to branching affects the sectoral specialization of output, in a manner that depends on the variance-covariance properties of sectoral returns, rather than on their average only.

A key distinction between some models of IPO pricing (e.g., auctions and bookbuilding) and others (e.g., fixed-priced models) is whether price discovery occurs in the primary or secondary market. Higher investment bank reputation is associated with 1) more active filing price revisions and 2) reduced secondary market volatility, indicating greater resolution of uncertainty before trading begins. Revisions of nonreputable banks cluster on exactly zero dollars. Finally, the “partial adjustment” phenomenon – often attributed to information aggregation – is primarily due to the behavior of reputable underwriters. We conclude that theoretical models of primary market information aggregation are better suited for reputable underwriters.

This paper investigates the effects of macroeconomic fundamentals on emerging market sovereign credit spreads. We find that the volatility of terms of trade in particular has a statistically and economically significant effect on spreads. This is robust to instrumenting terms of trade with a country-specific commodity price index. Our measures of country fundamentals have substantial explanatory power, even controlling for global factors and credit ratings. We also estimate default probabilities in a hazard model and find that model implied spreads capture a significant part of the variation in observed spreads out-of-sample. The fit is better for lower credit quality borrowers.

Financial intermediaries worldwide are seeking mechanisms for participating in micro lending. Using informed “local capitalists” as bank's on-lenders fails due to borrowers' incentive to default with multiple credit sources. A coalition of local capitalists may not resolve the problem in the presence of a monopoly moneylender with superior skills in lending and enforcement. A credible competitive threat to the moneylender can only arise if the local capitalist coalition also provides information sharing benefits that lower their cost of lending vis-à-vis the moneylender. Franchising allows local capitalists to form such a coalition. We analyze conditions under which welfare-enhancing franchising would obtain.