Highlighted Faculty Research

Individual Judgment and Trust Formation: An Experimental Investigation of Online Financial Advice

Working Paper
Julie R. Agnew, Hazel Bateman, Christine Eckert, Fedor Iskhakov, Jordan Louviere and Susan Thorp

Abstract: We explore how individuals assess the quality of financial advice they are given and how they form judgments about the trustworthiness and expertise of their advisers. Using an incentivized discrete choice experiment, we demonstrate how clients’ opinions of adviser quality can be manipulated over time by using a simple and easily replicated confirmation strategy. Our results show how clients use external signals, such as professional credentials, to guide their choices when the quality of advice is unclear. Our results indicate that improvements to regulation and monitoring of financial adviser qualifications are warranted.

Who Chooses Annuities? An Experimental Investigation of the Role of Gender, Framing and Defaults

American Economic Review | Vol 98, Issue 2, pp. 418-422, 2008
Julie R. Agnew, Lisa Anderson, Jeff Gerlach and Lisa R. Szykman

Abstract: Research suggests that women are more risk averse and less financially literate than men, as evidenced by their choice of less risky asset investments. We contribute to the literature by focusing on the role of gender in an increasingly important financial decision facing individuals at retirement, the choice between purchasing an annuity or investing their savings on their own. By using a controlled experiment, we eliminate the role of adverse selection and unfair annuity pricing and are able to focus specifically on gender. We also explore the role of defaults and framing, and whether women react differently to these features. We find that women are more likely to choose the annuity, and this is only partly explained by differences in risk aversion and financial literacy. Furthermore, biases in a five-minute presentation of information significantly affect choices in ways that differ across men and women.

Journal of Finance | Vol. 67, pp. 2215-2246, 2012
Vladimir Atanasov, Vladimir Ivanov and Kate Litvak

Abstract: We provide the first systematic analysis of the role of reputation in limiting opportunistic behavior by venture capitalists towards four types of counterparties: entrepreneurs, investors, other VCs, and buyers of VC-backed startups. Using a hand-collected database of lawsuits, we document that more reputable VCs (i.e., VCs that are older, have more deals, more funds under management, and syndicate with larger networks of venture capitalists) are less likely to be litigated. We also find that litigated VCs suffer declines in future business relative to carefully selected peers. These negative effects are stronger for more reputable VCs, and when VCs are defendants to multiple lawsuits or sued by entrepreneurs. Our results suggest that reputational mechanisms help deter VC opportunism.

Journal of Financial Economics | Vol. 96, pp. 155-173, 2010
Vladimir Atanasov, Bernard Block, Conrad Ciccotello and Stanley Gyoshev

Abstract: We model and test the mechanisms through which securities law affects tunneling and tunneling affects firm valuation. In 2002, Bulgaria adopted securities law changes which limit two forms of equity tunneling – dilutive equity offerings and freezeouts. We document that following the change, minority shareholders participate equally in secondary equity offers, where before they suffered severe dilution; freezeout offer prices quadruple; and Tobin’s q values rise sharply for firms at high risk of tunneling. At the same time, return on assets declines for high-equity-tunneling-risk firms, suggesting that controlling shareholders partly substitute for reduced equity tunneling by engaging in more cash-flow tunneling. We thus present evidence on (i) the importance of legal rules in limiting equity tunneling, (ii) the role of equity tunneling risk as an important factor in determining equity prices; and (iii) substitution by controlling shareholders between different forms of tunneling.

Review of Finance | Vol. 21, No. 2, pp. 719–760, 2017
Vladimir Atanasov, John J. Merrick and Philipp Schuster

Abstract: We find that small buy trades of US agency mortgage-backed securities (MBS) are priced 3–8% lower than large sell trades. No such “crossing” exists in corporate bonds and agency debentures. We attribute the MBS price patterns to impediments to position aggregation in combination with investor suitability rules that disproportionately affect retail-sized trading and show in a model that classic market frictions cannot produce crossing. Our findings imply that valuations placed on securities affected by aggregation and suitability frictions should adjust for position size. Such securities include not only agency MBS, but also asset-backed securities, commercial mortgage-backed securities, collateralized mortgage obligations, collateralized loan obligations, and private-label residential mortgage-backed securities.

International Review of Economics and Finance | Vol. 45, pp. 333-342, 2016
John F. Boschen and Kimberly J. Smith

Abstract: Since the 1990s there has been a substantial increase in foreign exchange market trading by non- dealer financial firms. Non-dealer financial firms comprise a market segment that includes hedge funds and mutual funds, among others. We investigate whether the growth of non-dealer financial firm trading affected the uncovered interest rate parity (UIP) anomaly, a phenomenon that seems to offer opportunities for excess returns. We find that the growth in trading volume by non-dealer financial firms is associated with some mitigation in the UIP anomaly. In contrast, growth in dealer- to-dealer and dealer-to-nonfinancial firm trading volume has no impact on the anomaly.

The Accounting Review | Vol. 78, pp. 143-168, 2003
John F. Boschen, Augustine Duru, Lawrence A. Gordon and Kimberly J. Smith

AbstractIn this study we examine the long-run effects of unexpected firm performance on CEO compensation. We find that unexpectedly good accounting performance is initially associated with increases in CEO pay. However, this initial effect soon reverses, and is followed by lower CEO pay in later years. Overall, the CEO’s long-run cumulative financial gain from unexpectedly good accounting performance is not significantly different from zero. In contrast, unexpectedly good stock price performance is associated with increases in CEO pay for several years. Thus, the CEO’s long-run cumulative financial gain from unexpectedly good stock price performance is positive and significant.

Review of Financial Studies | Vol. 20, pp. 125-50, 2007
Gordon Alexander, Gjergji Cici and Scott Gibson

Abstract: We relate the performance of mutual fund trades to their motivation. A fund manager who buys stocks when there are heavy investor outflows is likely to be motivated by the belief that the stocks are significantly undervalued. In contrast, when there are heavy inflows, the manager is likely to be motivated to work off excess liquidity by buying stocks. Our analysis reveals that managers making purely valuation-motivated purchases substantially beat the market but are unable to do so when compelled to invest excess cash from investor inflows. A similar, but weaker, pattern is found for stocks that are sold.

Journal of Financial Economics | Vol. 101, pp. 206-226, 2011
Gjergji Cici, Scott Gibson and John J. Merrick

Abstract: We study the dispersion of month-end valuations placed on identical corporate bonds by different mutual funds. Such dispersion is related to bond-specific characteristics associated with liquidity and market volatility. TRACE may have contributed to the general decline in dispersion over our sample period, though other factors most likely played roles. Further tests reveal marking patterns to be consistent with returns smoothing behavior by managers. Funds with ambiguous marking policies and those holding “hard-to-mark” bonds appear more prone to smooth reported returns. From a regulatory perspective, we see little downside to requiring funds to explicitly state their marking standards.

Real Estate Economics | pp. 1-40, 2016
Scott Gibson, Michael J. Seiler and Eric Walden

Abstract: Starting with the premise that realization utility theory helps explain trading behavior, this study combines a carefully crafted experimental design with functional magnetic resonance imaging technology to offer a more inclusive examination of factors that affect REIT trading behavior beyond whether a REIT is simply trading up or down. We add to the nascent field of neurological real estate by finding that local gains/loss domains are more relevant than are global gain/loss considerations, financial skewness is a significant determinant of trading behavior, and that performance inside the REIT market influences how hard subjects think when performing tasks outside the market.

Journal of Finance | Vol. 68, Issue 3, 1149-1169, 2012
Katherine Guthrie, Jan Sokolowsky and Kam-Ming Wan

Abstract: Chhaochharia and Grinstein (JF, 2009) estimate that CEO pay decreases by 17% more in firms that were not compliant with the recent NYSE/NASDAQ board independence requirement than in firms that were compliant. We document that 74% of this magnitude is attributable to two outliers out of 865 sample firms. In addition, we find that the compensation committee independence requirement increases CEO total pay, particularly in the presence of effective shareholder monitoring. Our evidence casts doubt on the effectiveness of independent directors in constraining CEO pay as suggested by the managerial power hypothesis.

Critical Finance Review | Conditionally Accepted
Katherine Guthrie and Jan Sokolowsky

Abstract: Obesity provides a potentially informative signal about individuals’ choices and preferences. Using NLSY survey data, we estimate that debt delinquency is 20 percent higher among the obese than the non-obese after controlling for an extensive set of financial and economic credit risk factors. The economic significance of obesity for delinquencies is comparable to that of job displacements. Obesity is particularly informative about delinquencies among those with low credit risk. In terms of channels, we find that the conditional obesity effect is partially mediated through health, but is not attributable to individuals’ attitudes, time and risk preferences, or cognitive skills.

The Accounting Review | Vol. 86, No. 6, pp. 2047-2073, 2011
Denise A. Jones and Kimberly J. Smith

Abstract: Gains and losses reported as other comprehensive income (OCI) and as special items (SI) are often viewed as similar in nature: transitory items with little ability to predict future cash flows and minimal implications for company value. However, current accounting standards require SI gains and losses to be recognized in net income, while OCI gains and losses are deferred until realized. This study empirically compares OCI and SI gains and losses using a model that jointly estimates value relevance, predictive value, and persistence. Results show that both SI and OCI gains and losses are value- relevant, but SI gains and losses exhibit zero persistence (i.e., are transitory), while OCI gains and losses exhibit negative persistence (i.e., partially reverse over time). Further, we find that SI gains and losses have strong predictive value for forecasting both future net income and future cash flows, while OCI gains and losses have weaker predictive value.

Journal of Financial Economics | Vol. 77, Issue 1, pp. 171-218, 2011
John J. Merrick, Narayan Naik and Pradeep Yadav

Abstract: This paper investigates the trading behavior of major market participants – both dealers and customers – during the six-month period of a well-publicized market manipulation episode: an attempted delivery squeeze in a bond futures contract traded in London. The analyses are based on a rich dataset on the spot and futures trades and inventories reported to the chief governmental regulator by different individual dealers and the Exchange. This simultaneous investigation of price distortions and trading positions of participants are of significant interest to both academics and market regulators. From an academic perspective, this paper provides, inter-alia, empirical evidence on how learning takes place in the market place and on the strategic behavior of major market participants, both dealers and public traders, in a market manipulation setting. It also shows that prices respond selectively to the trading actions of only the group of selected market participants that are relevant at that time. From a regulatory perspective, this paper has several messages. First, regulators and exchanges need to be very concerned about ensuring that squeezes do not take place since they are accompanied by severe price distortions and significant erosion of market depth. Second, exchanges should mark to market the specifications of their contracts more frequently, so that the term structure which underlies the calculation of conversion factors does not become dramatically different from the prevailing term structure. Third, regulatory reporting should ask for flagging of possession oriented trades like forward term repos: these trades can currently go un-noticed since they require virtually no regulatory capital. Fourth, and very importantly, delivery non-performance penalties in bond futures markets should be changed to conform to the cash market and the repo market conventions for settlement nonperformance.

Real Estate Economics | Vol. 40, No. 1, pp. S199-S233, 2012
Michael J. Seiler, Vicky L. Seiler, Mark A. Lane and David M. Harrison

Abstract: This study examines underwater primary resident homeowners to identify why some decide to strategically default while others do not. We find that realized shame and guilt are consistent with ex ante expectations. However, the financial backlash experienced by strategic defaulters is less than anticipated, causing strategic defaulters not to regret their actions. State-specific bankruptcy exemption levels and real estate laws only marginally explain the decision to strategically default, partly because the decision to walk away from a mortgage is emotional, and partly because the implementation of these laws is uncertain and confusing to distressed borrowers. Rather, we find key strategic default drivers include the homeowner’s expectation of future real estate price movements, frustration with the lender, moral evaluation of the decision to strategically default, loan knowledge, political ideology, gender, income and age.

Real Estate Economics | Vol. 45, No. 1, pp. 204-230, 2017
Michael J. Seiler

Abstract: We test the disjunctive thesis as it relates to mortgage contracts and find that a liquidated damages clause shifts ones view of a mortgage from a promise to perform to either a promise to perform or pay compensatory damages. However, when a strategic mortgage default is responsible for the breach, the perceived immorality of this action overwhelms the liquidated damages clause effect in support of the disjunctive thesis. We also find that people’s conscious “experimentally stated preference” moral stance on installment loan (mortgages, auto loans, credit card debt and even cell phone contracts) default significantly differs from their subconscious “experimentally revealed preference” moral stance indicating a difference between what people say they believe and what they actually believe.

Working Paper
Michael J. Seiler

Abstract: This study identifies a severe gap between the financial backlash borrowers believe awaits them after strategic mortgage default and the reality that lenders rarely pursue deficiency judgments. This, coupled with the social norm finding that borrowers widely view strategic default as immoral, leads us to recommend lenders and policymakers seeking to stem the tide of defaults to pursue a policy of informational opacity. We make several recommendations for how to carry out such a policy as well as what might need to change in society before the alternative policy of informational transparency becomes ideal.