This paper studies rehypothecation, a practice in which financial institutions re-pledge collateral pledged to them by their clients. Rehypothecation enhances provision of funding liquidity to the economy, but it also incurs deadweight cost by misallocating the asset among the agents when counterparties fail. We examine the possibility of a conflict between the intermediary and its borrower on rehypothecation arrangements. The direction of this conflict depends on haircuts of the contract between them: if the contract involves over-collateralization, there tends to be an excessive use of rehypothecation, and if the contract involves under-collateralization, there tends to be an insufficient use of rehypothecation. This offers an empirical prediction of a link between the size of haircut in collateralized financial contracts, borrower information, and the likelihood of rehypothecation.

We formulate and test hypotheses about how lead banks of syndicated loans use private information about loan quality, the Signaling and Sophisticated Syndicate Hypotheses. We measure private information using Shared National Credit (SNC) internal loan ratings made comparable using concordance tables. As outcomes, we use proportions of loans retained by lead banks from SNC and rate spreads on the loans from DealScan. We find favorable private information is associated with higher retention and lower spreads for pure term loans, supporting the Signaling Hypothesis. Only lower spreads occur for pure revolvers, likely because their syndicates more often include large sophisticated banks.

Suppliers are subject to the credit risk of their customers when they sell products on credit. However, rights to the collateral value of the products they sell may mitigate some of this risk. This paper demonstrates the important role of laws that support suppliers’ rights to reclaim and liquidate collateral. Using a change in the US bankruptcy code that altered the rights of a subset of suppliers, I use a difference-in-differences setting to show that an improvement in suppliers’ rights to the liquidation value of collateral results in an increase in the amount and duration of trade credit offered. The increase in collateral protection also reduced suppliers’ lending standards, resulting in more dispersed trade credit lending and riskier customer portfolios. Finally, I find that the increase in collateral rights decreased suppliers’ incentives to monitor their customers, consistent with collateral and monitoring being substitutes. Overall, the paper shows that with strong legal protections in place, trade credit has an important collateral component.

Against the backdrop of the role of derivatives in the recent financial crisis, this paper investigates the effect of derivatives usage on the risk and exposure of nonfinancial firms around the world, and presents evidence that they use derivatives for hedging purposes. There is no evidence of corporate speculation with derivatives for firms in individual countries or for different types of derivatives, except for marginally higher net commodity price exposure of firms using commodity price derivatives. Firms use derivatives for hedging purposes independent of access to derivatives or country-level corporate governance. While there are no differences in risk between firms in countries with strong and weak shareholder rights, the reduction in risk is larger for firms in countries where creditor rights are weak or where derivatives are readily available. Consequently, policy makers could facilitate corporate hedging activities by pursuing strategies that encourage the development of local-currency derivatives markets. Given the similarity in the use and effect of derivatives across countries, internationally harmonized regulation of derivatives markets may be adequate.

This study reports an experiment conducted to examine auditors' materiality judgments for nonfinancial performance information (NFPI) in the context of Integrated Reporting; a setting where auditors do not have well-established guidelines or benchmarks. We examine two fundamental factors underlying Integrated Reporting that are predicted to influence auditors' NFPI materiality judgments, namely, the level of strategic relevance associated with the NFPI being assessed, and the provision of a strategy map (a visual representation of linkages between the firm's strategic objectives) to auditors. Our study provides evidence that while auditors judge misstated NFPI of low strategic relevance to be less material than misstated NFPI with high strategic relevance, they only make this distinction when a strategy map is present. As integrating a client's strategy in the process of evaluating materiality is important, our result suggests that the presence of a strategy map potentially improves the efficient allocation of assurance resources. The importance of understanding how qualitative factors affect materiality judgments in nonfinancial assurance engagements is reflected in the fact that accounting firms view such assurance as mainstream. Our findings not only have implications for standard setters developing further guidance for determining audit materiality under Integrated Reporting, but also more generally for auditors who are providing assurance services for NFPI.

We conduct a series of forecasting experiments to examine how people update their beliefs upon observing others’ forecasts. Subjects exhibit “cursedness,” that is, a propensity to underestimate the link between others’ forecasts and others’ information, which causes subjects to underreact. The behavior of sophisticated subjects is not affected by the framing of information, but unsophisticated subjects switch from underreaction to overreaction when they are only provided qualitative (rather than quantitative) forecast information. Our results have important implications for the way that financial analysts aggregate information and the way that financial institutions present forecasts to their clients.

This paper proposes a new measure of contagion as the coincidence of large left-tail events in the idiosyncratic disturbances of international stock returns after controlling for their exposure to a global factor. Episodes of bad contagion, especially those involving a large number of countries, are followed by a significant drop in international stock returns. This predictability pattern can be understood as an international transmission effect, as bad contagion only affects countries that did not experience tail events. In addition, the negative effect of bad contagion spills over to real growth, sovereign default risk, and financial stability indicators.

We present evidence that, following the passage of the Sarbanes-Oxley Act, firms responded to the increased requirement for outside director monitoring by substituting insiders with outside directors who have social or professional connections to their CEOs. This substitution was most significant in firms that have higher outside director monitoring costs – small, young firms, firms outside the S&P 1500 index, and firms with low analyst scrutiny. The addition of these “friendly” directors did not reduce firm performance, suggesting that it may have been an efficient response by firms aimed at lowering the additional monitoring costs imposed by the new regulations. Our findings suggest that, as with many other aspects of board composition, the determinants and consequences of appointing friendly directors vary with the costs and benefits of outside director monitoring.