Knowledge that Transforms

[Previous research finds that fundamental macroeconomic news has little effect on stock prices. We show that after allowing for different stages of the business cycle, a stronger relationship between stock prices and news is evident. In addition to stock prices, we examine the effect of real activity news on proxies for expected cash flows and equity discount rates. We find that when the economy is strong the stock market responds negatively to news about higher real economic activity. This negative relation is caused by the larger increase in discount rates relative to expected cash flows.]

[In this article we break assets' betas with common factors into components attributable to news about future cash flows, real interest rates, and excess returns. To achieve this decomposition, we use a vector autoregressive time-series model and an approximate log-linear present value relation. The betas of industry and size portfolios with the market are largely attributed to changing expected returns. Betas with inflation and industrial production reflect opposing cash flow and expected return effects. We also show how asset pricing theory restricts the expected excess return components of betas.]

[In an extension of the Kyle (1985) model of continuous insider trading, it is shown that asymmetric information can make it impossible to price options by arbitrage. Even when an option would appear to be redundant, its introduction into the market can cause the volatility of the underlying asset to become stochastic. This eliminates the potential for dynamically replicating the option. The change in the price process of the asset reflects a change in the information transmitted by volume and prices when the option is traded.]

[We examine the structure of initial takeover bids and the frequency of observing competing bids and target management resistance. We find the use of cash is not consistently correlated with the frequency of competition or resistance and that the cost of acquiring information about a target is associated with the likelihood of competition and resistance. A high bid premium appears to deter competing offers and is also associated with a lower likelihood of resistance. Finally, target management resistance is associated with an increased likelihood of a competing offer arising and a larger increase in target shareholder wealth between the initial public announcement and outcome dates relative to the not-resisted subsample for both successful and unsuccessful acquisition proposals.]

[The incorporation of diverse information into asset prices is empirically examined in an actual securities market with multiple rounds of trade. Using prices of Israeli index and nominal bonds of equal maturity, we calculate implied expectations of inflation that has already occurred but for which the official statistic has not yet been announced. Learning is defined as the convergence of these expectations to the actual level of inflation in the period after the end of the month but before the announcement of the official statistic. We find that the variance of the inflation expectation errors decreases with trading days in this period. The decline in the variance suggests that investors learn, by repeatedly observing prices, about the distribution of other investors' information. We also find a positive relation between the dispersion of relative price changes and the size of the inflation-expectation errors on the first round of trade. The correlation diminishes as investors learn about the distribution of inflation information in the economy.]

[Announcements of successful leveraged buyouts (LBOs) during January 1985 to April 1989 caused a significantly negative return on outstanding publicly traded nonconvertible bonds. Yet the average risk-adjusted debt holder losses are less than 7 percent of the average risk-adjusted equity holder gains. Bond losses are related to the pre-LBO rating, but only weakly to equity holder gains. We demonstrate that trader-quoted data from a major investment bank offers conclusions about the effects of LBOs on debt holders different from those drawn from commonly used matrix and exchange-based data (such as Standard & Poor's Bond Guide data). This has important implications for event studies involving debt instruments.]

[We investigate predictability in national equity market returns, and its relation to global economic risks. We show how to consistently estimate the fraction of the predictable variation that is captured by an asset pricing model for the expected returns. We use a model in which conditional betas of the national equity markets depend on local information variables, while global risk premia depend on global variables. We examine single- and multiple-beta models, using monthly data for 1970 to 1989. The models capture much of the predictability for many countries. Most of this is related to time variation in the global risk premia.]

[A model of trading in speculative markets is developed based on differences of opinion among traders. Our purpose is to explain some of the empirical regularities that have been documented concerning the relationship between volume and price and the time-series properties of price and volume. We assume that traders share common prior beliefs and receive common information but differ in the way in which they interpret this information. Some results are that absolute price changes and volume are positively correlated, consecutive price changes exhibit negative serial correlation, and volume is positively autocorrelated.]

[This study provides a comprehensive empirical analysis of the early exercise history of S&P 100 put and call options. Even though the S&P 100 index options market is generally considered to be the most efficient options market in the world, we show that many exercise decisions are inefficient because they occur when recorded bids are greater than exercise values. Due to market imperfections, some of the cases of inefficient exercise are still rational, but we show that a substantial number of these decisions are clearly irrational, since it would have been possible to realize a larger riskless net cash flow by selling. Unlike previous studies of early exercise, our tests of efficiency and the rational decisions that presumably lead to efficiency markets are model independent. We also provide evidence concerning the relative significance of dividends and the wild card to index option pricing models, and introduce and document the importance of the option to exercise and avoid the indirect costs of the spread. We also find evidence of a significant day-of-the-week exercise effect, and present some likely explanations for that effect.]

[In aggregate, options on real and financial assets can have very different properties. Typically, the good or service produced by a real asset has a finite elasticity of demand, and developers have finite capacities. Also, the supply of options can be limited, and developers can be less than perfectly competitive. In a subgame, perfect Nash equilibrium with these properties, the optimal exercise policy, and resulting values of developed and undeveloped assets are calculated explicitly. The novel comparative statics are discussed in detail.]