Stock prices often provide firm managers with new information that can be used in real decisions. Studies generally focus on the ex ante disclosure policy and show that the presence of market feedback crowds out firms' disclosure. We instead examine a manager's ex post biasing incentives and find that market feedback amplifies overreporting bias, but not necessarily underreporting bias, due to three interacting effects. First, the manager biases the report more with feedback since decreased information quality crowds in the speculator's private information acquisition and improves investment efficiency, regardless of the reporting scenario (the information rationing effect). Second, the manager biases more in the overreporting scenario and less in the underreporting scenario, because reporting more favorable information crowds in private information acquisition, as the speculator expects a higher subsequent investment and therefore higher trading profits (the investment scale effect). Third, market feedback influences reporting bias not only through the speculator's information acquisition but also directly through the market maker's pricing function. Specifically, the market maker decreases the price discount, as he expects that the manager may learn correct information from the price and may invest more efficiently. Expecting a lower price penalty in the presence of feedback, the manager biases more in the overreporting scenario and less in the underreporting scenario (the investment correction effect). Overall, our results suggest that granting firms reporting discretion could improve investment efficiency and firm value when managers can learn through price.

Nonlinearity is an important consideration in many problems of finance and economics, such as pricing securities and solving equilibrium models. This article provides analytical treatment of a general class of nonlinear transforms for processes with tractable conditional characteristic functions. We extend existing results on characteristic function-based transforms to a substantially wider class of nonlinear functions while maintaining low dimensionality by avoiding the need to compute the density function. We illustrate the applications of the generalized transform in pricing defaultable bonds with stochastic recovery. We also use the method to analytically solve a class of general equilibrium models with multiple goods and apply this model to study the effects of time-varying labor income risk on the equity premium.

We develop a dynamic incomplete-markets model of entrepreneurial firms, and demonstrate the implications of nondiversifiable risks for entrepreneurs' interdependent consumption, portfolio allocation, financing, investment, and business exit decisions. We characterize the optimal capital structure via a generalized tradeoff model where risky debt provides significant diversification benefits. Nondiversifiable risks have several important implications: More risk-averse entrepreneurs default earlier, but choose higher leverage; lack of diversification causes entrepreneurial firms to underinvest relative to public firms, and risky debt partially alleviates this problem; and entrepreneurial risk aversion can overturn the risk-shifting incentives induced by risky debt. We also analytically characterize the idiosyncratic risk premium.

ABSTRACT We examine how stock market feedback affects corporate investment when responsible investors are active in the market. These investors experience disutility when the firm’s investment decisions are misaligned with their nonfinancial preferences. A manager chooses between two projects that are ex ante financially equivalent: a “green” one aligned with investor preferences and a “brown” one that is not (e.g., due to environmental or social concerns). The success of the project depends on matching the investment with the state of nature. Because responsible investors prefer to hold green firms, trading is more informative when the firm signals green, strengthening market feedback. Anticipating this, the manager may misreport a brown signal as green to attract responsible investors. However, such manipulation can deter investors from acquiring information and reduce the firm’s value. We show that this mechanism is robust to several alternative investor compositions. JEL Classifications: G14; G30; M41.

ABSTRACT The Clean Development Mechanism (CDM) is a flexible carbon market mechanism managed by the United Nations. The program grants tradable carbon emissions credits (Certified Emission Reductions) for carbon‐reducing projects in developing countries. A project can only be admitted to the program if it is not financially profitable, and thus would not take place without the emission credits granted through the CDM. In this paper, we examine how monitoring reduces incentives of companies to bias the reported expected financial viability of potential CDM projects to gain admission to the program. We find that reported rates of return, which are a key factor for admission to the program, tend to be downwardly biased and are negatively associated with the expected benefits stemming from forecasted greenhouse gas reductions. However, monitoring from various sources mitigates some of the distorted incentives and related reporting bias. Furthermore, the monitoring effect becomes much stronger after 2008, when the CDM Executive Board implemented a series of measures to strengthen the additionality testing that provides guidance for program applications.

ABSTRACT We examine how financial disclosure policy affects a firm manager's strategy to innovate within a two‐period bandit problem featuring two production methods: an old method with a known probability of success, and a new method with an unknown probability. Exploring the new method in the first period provides the manager with decision‐useful information for the second period, thus creating a real option that is unavailable under exploiting the old known production method. Voluntary disclosure of the firm's financial performance provides the manager with another option to potentially conceal initial failure from the market. The interaction of these two options determines the manager's incentive to explore. In equilibrium, a myopic manager who cares about the interim market price may over‐ or under‐explore compared to the optimal exploration strategy that maximizes firm value. Our analysis shows that firms operating in an environment with voluntary disclosure early in the trial stage and mandated requirement later are most motivated to explore, while firms subject to early mandated disclosure and late voluntary disclosure are least likely to do so. We also provide empirical predictions about the link between the disclosure environment and the intensity and efficiency of corporate innovation.

We document several facts about corporate debt maturity: (1) debt maturity is pro-cyclical, (2) higher-beta firms tend to have longer maturity, and (3) shorter maturity amplifies the sensitivity of credit spreads to aggregate shocks. We present a dynamic capital structure model that explains these facts. In the model, leverage and maturity choices are interdependent, which reflect the tradeoffs of liquidity discounts of long-term debt, repayment risks of short-term debt, and the benefit of short-term debt as a commitment device for timely leverage adjustments. Additionally, the model helps quantify the effects of maturity dynamics on the term structure of credit spreads.

This study uses two distinct quasi-natural experiments to examine the effect of institutional shareholders on corporate social responsibility (CSR). We first find that an exogenous increase in institutional holding caused by Russell Index reconstitutions improves portfolio firms’ CSR performance. We then find that firms have lower CSR ratings when shareholders are distracted due to exogenous shocks. Moreover, the effect of institutional ownership is stronger in CSR categories that are financially material. Furthermore, we show that institutional shareholders influence CSR through CSR-related proposals. Overall, our results suggest that institutional shareholders can generate real social impact.

The 2008 financial crisis exemplifies significant uncertainties in corporate financing conditions. We develop a unified dynamic q-theoretic framework where firms have both a precautionary-savings motive and a market-timing motive for external financing and payout decisions, induced by stochastic financing conditions. The model predicts (1) cuts in investment and payouts in bad times and equity issues in good times even without immediate financing needs; (2) a positive correlation between equity issuance and stock repurchase waves. We show quantitatively that real effects of financing shocks may be substantially smoothed out as a result of firms' adjustments in anticipation of future financial crises.