Knowledge that Transforms

Since 2012, all European Union countries have required disclosure of large short positions. This reduces short interest, bid-ask spreads, and the informativeness of prices. After specific disclosures, short-run abnormal returns are insignificantly negative, but 90-day cumulative abnormal returns are a statistically significant -5.23%. We find disclosures are likely to be followed by other disclosures, especially when the initial discloser is large or centrally located. However, there is no subsequent increase in short interest, and prices do not subsequently reverse. These results indicate that large short sellers are well informed, and that disclosures are not being used to coordinate manipulative attacks.

We estimate the shadow cost of capital requirements using data on a costly loophole that allowed banks to relax these constraints. This loophole—liquidity guarantees to asset-backed commercial paper conduits—was exploited by the largest banks before the crisis of 2008. We show theoretically that a bank's use of the loophole reveals its private compliance cost, which takes into account both the costs of issuing equity and the effectiveness of capital regulation. We find that increasing capital requirements would impose a modest cost—$220 million a year for all participating banks combined per one-percentage-point increase, and $14 million on average.

We provide new facts on the debt dynamics leading up to the financial crisis of 2007. Earlier research suggests that distortions in the supply of mortgage credit, evidenced by a decoupling of credit flow from income growth, may have caused the rise in house prices and the subsequent housing market collapse. This paper shows that the increase in mortgage originations was shared across the whole distribution of borrowers, and that middle-and high-income borrowers made up the majority of originations even at the peak of the boom. Compared to prior years, middle-and high-income borrowers (not the poor), as well as those with medium and high credit scores, made up a much larger share of delinquencies in the crisis relative to earlier years. We show that the relation between individual mortgage size and income growth during the housing boom was always strongly positive, also in line with previous periods (and independent of how income is measured). These results are most consistent with an expectations based view of the financial crisis in which both homebuyers and lenders were buying into increasing housing values and defaulted once prices dropped.

We examine how production flexibility affects financial leverage. A worldwide sample of energy utilities allows us to apply direct measures for production flexibility based on their power plants. We find that production flexibility increases financial leverage. For identification, we exploit privatizations and deregulations of electricity markets, geographical variations in natural resources, the technological evolution of gas-fired power plants, and differences in electricity prices and recapitalization cost across regions. Production flexibility affects financial leverage via the channels of reduced expected cost of financial distress and higher present value of tax shields. The relative importance of these channels depends on firms' profitability.

We show how optimal household decisions regarding work, retirement, saving, portfolio allocations, and life insurance are shaped by the complex financial options embedded in U.S. Social Security rules and uncertain family transitions. Our life cycle model predicts sharp consumption drops on retirement, an age-62 peak in claiming rates, and earlier claiming by wives versus husbands and single women. Moreover, life insurance is mainly purchased on men's lives. Our model, which takes Social Security rules seriously, generates wealth and retirement outcomes that are more consistent with the data, in contrast to earlier and less realistic models.

We document that CRSP and Thomson contain many voluntarily reported mutual fund portfolios that are not in SEC filings while, additionally, CRSP and Thomson are missing many SEC mandated portfolios available in SEC filings. We document that the voluntary disclosures are likely driven by convenience rather than duplicity. Although mandated portfolios contain securities with more return momentum, we find use of SEC or Thomson data lead to similar empirical findings. CRSP, however, contains inaccurate position information prior to 2008. Our findings have important implications, such as highlighting a 35% increase in observed manager trading by combining data sources.

We analyze a new dataset on workers' career paths to examine whether private equity (PE) investments can have positive spillover effects on workers. We study leveraged buyouts in the context of recent information technology (IT) diffusion, and find evidence supporting the argument that many employees of companies acquired by PE investors gain transferable, IT-complementary human capital. Our estimates indicate that these workers experience increases in both long-run employability and wages relative to what they would have realized in the absence of PE investment. The findings underscore PE's role in mitigating the effects of workforce skill obsolescence due to technological change.

Using the staggered introduction of fast-track debt recovery courts in India, we estimate the causal effect of a reduction in debt contract enforcement costs on financing and asset maturity. A reduction in enforcement costs is associated with an increase in long-term debt and a decrease in short-term debt and trade credit. The increase in debt maturity is confined to firms that borrow from multiple lenders, have abnormally short debt maturity structures before the reform, and to smaller firms. Firms also reduce the number of banking relationships, and increase the proportion of long-term assets after the reform.

We examine the effect of trust on financial investment and contracting decisions in a micro-economic environment where trust is exogenous. Using hand-collected data on European venture capital, we show that the Eurobarometer measure of trust among nations significantly affects investment decisions. This holds even after controlling for investor and company fixed effects, geographic distance, information and transaction costs. The national identity of venture capital firms' individual partners further contributes to the effect of trust. Education and work experience reduce the effect of trust but do not eliminate it. We also examine the relationship between trust and sophisticated contracts involving contingent control rights and find that, even after controlling for endogeneity, they are complements, not substitutes.

We use neural data collected from an experimental asset market to measure regret preferences while subjects trade stocks. When subjects observe a positive return for a stock they chose not to purchase, a regret signal is observed in an area of the brain that is commonly active during reward processing. Subjects are unwilling to repurchase stocks that have recently increased in price, even though this is suboptimal in our experiment. The strength of stock repurchasing mistakes is correlated with the neural measures of regret. Subjects with high rates of repurchasing mistakes also exhibit large disposition effects.