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Abstract:
Prospect theory of Kahneman and Tversky (1979) suggests that traders will typically lock in gains and gamble on losses. In extreme situations such behavior can lead to significant downside risk for fund investors. Weisman (2002) uses the term informationless investing to describe this behavior, and argues that these strategies are peculiar to the asset management industry in general, and the hedge fund industry in particular and that these strategies can produce the appearance of return enhancement without necessarily providing any value to an investor. We devise a simple procedure to determine whether a given pattern of trading is consistent with informationless investing and apply it to a unique database of daily transactions and holdings of a set of thirty nine successful Australian equity managers. While this pattern of trading does seem to characterize the portfolios of some of the largest funds in Australia, this phenomenon is limited to positions taken in individual securities within large and well diversified funds. For this reason the negative consequences for fund investors appear to be limited.

Prospect Theory, Disposition Effect, Risk management; Performance evaluation; Window dressing

Abstract:
Yes. I aim to establish empirically that the "equity premium" puzzle, with its 6% excess return per annum over Treasury bills for the last 100 years on the NYSE, can be explained once the value of endogenous stock market trading is incorporated into investor preferences. Within my framework, investors enjoy trading. According to my model, the "investor surplus" from trading liquid Treasury bills relative to illiquid equity is exactly compensated for by the expected equity premium. Observed transaction cost and liquidity differentials between equity and bills are consistent with the premium. Extensive tests are carried out on Australian and US NYSE data for 1955-98. The puzzle concerning the volatility of the stochastic discount factor also appears to be explained by trading behavior, which is of comparable volatility. Reasonably accurate estimates of transactions costs are extracted just from daily dividend yields and turnover. Transaction costs would need to be 400% higher to explain the premium by the "amortized spread", together with exogenous trading and habit formation. An ability to create unlimited wealth, implicit in some existing models, no longer applies. Additionally, the model explains the further 15-20% pa discount on illiquid "letter" stock.

equity premium, asset prices, liquidity, trading, transaction cost, amortized spread.

Abstract:
Recent theoretical models have shown that liquid stock markets can improve the alignment of managers' and shareholders' interests even though high stock turnover would seem to be incompatible with the traditional view of monitoring of management by a stable set of shareholders. We test the prediction of Holmstrom and Tirole (1993) that managers' compensation is more closely tied to shareholder wealth when the firm's shares trade more actively. It is strongly empirically supported using a sample of over 45,000 executive years and numerous tests. In virtually all specifications, the effect of liquidity is at least as great as that of size, risk, industry, year, the existence of growth options, leverage, the existence of cash constraints, firm focus, or the presence of government regulation, existing option holdings and stock holdings. In fact, utilizing 900 simulations across different sample sizes, three liquidity variables account for between 67% and 79% of the explained variation with the remainder accounted for by 17 traditional variables. By contrast, accounting-based bonus incentives are employed by more illiquid firms and have more the characteristics of a substitute rather than a complement. We conclude that boards delegate monitoring of executives to active market traders when the stock is liquid and undertake internal monitoring using bonus schemes when the stock is relatively illiquid. Given greater efficacy of external monitoring, this implies that stock market liquidity sets bounds on the size and complexity of diversified firms.

Pay-performance sensitivity, Executive options; Incentives; Liquidity; Information content; Monitoring, Bonus schemes

Abstract:
We use unique data from Australia to analyze the nature and determinants of order flow frag-mentation across all trades and every security traded. Our panel regression estimates shows that cross-sectional difference in off-market trading (ECNs, after-hours and upstairs trading alike) is driven by institutional trading interest (trading volume, indexation) and liquidity (bid-ask spread and market depth). At the transaction level, we study upstairs and primary downstairs block trades and find strong evidence that trade size, downstairs liquidity and a trader?s reputation af-fect his market selection decision. We conclude that there is significant competition between markets in highly liquid securities and their coexistence benefits those in a position to switch.

Fragmentation, Off-Market Trading, Transparency, Anonymity, Electronic Communication Networks

Abstract:
In a sequence of trades in the same direction across fund managers, we expect the long-term return of a trade to be increasing in the number of subsequent trades if fund managers' trading is driven by private information. In contrast, information cascades imply the lack of such a relationship. Using the number of brokers and the number of zero trading days prior to a trade to identify the beginning of a trade sequence in our daily fund manager trade series, we find evidence of private information trading when there are less than four fund managers in a trade sequence and information cascade when there are four or more fund managers. We discover that multiple-broker trades have higher price impact as well as higher long-term returns. These trades are also associated with fewer subsequent trades by other fund managers. Finally, we observe that the post-completion returns of the lead trades in a trade sequence are increasing in the managers' portfolio weights in excess of the index weights. While there is evidence that fund managers follow the trades of their peers, they typically trade on private information and they leave some 'money on the table' when they face binding risk constraints.

Herding, Informational cascades, Trade sequences, Leader and follower trades

Abstract:
Examination of the origins of the 2008 subprime crisis reveals that what occurred was no accident. All the major parties responsible for the crisis appear to have gained something from what transpired, at least in the short-run. Moreover, it seems to have been as much, if not more, a failure of government and its agencies inclusive of regulators as much as any failure of capitalism. Finally, the apparently arbitrary, if not self-interested, bank bailouts seem to indicate that governments are likely to directing bank policy for some time.

Subprime crisis, Government bailouts, Vested interests, Regulatory failure

Abstract:
According to the "keeping up with the Jones" theory promulgated by compensation consultants, compensation disclosure is responsible for increases in executive pay levels. Jensen and Murphy (1990a), however, contend that disclosure is responsible for a decline in performance pay, as public scrutiny penalizes boards that provide incentives resulting in high payouts. We provide evidence contrary to both theories using data on pay levels and incentives pre- and post-disclosure. Disclosure does not appear to alter pay levels but it does enhance incentives. Our findings suggest failure in managerial incentive contracts when pay is opaque to shareholders.

CEO compensation, disclosure, regulation, contracts, pay levels, pay sensitivity

Abstract:
This study examines the effect of institutional investor influence on the structure of corporate boards. We focus on investor influences with respect to reducing board size and increasing board independence. Measures of institutional influence are negatively related to board size and positively related to board independence. To achieve these aims, institutions remove inside directors. This effect is enhanced when the firm has performed poorly - institutions take corrective action to improve firm performance by punishing those directors deemed responsible for contributing to poor firm performance. Institutional investors do not adjust their monitoring objectives with respect to board size and independence to reflect firm specific characteristics.

Board of Directors, Monitoring, Institutional Investment Behavior

Abstract:
We examine the price impact cost of block trades across three trading mechanisms: the upstairs market, a crossing network system, and the limit order book. While, unsurprisingly, both the upstairs market and crossing system provide lower price impact costs for block trades than downstairs, using unique exogenous measures of market access we find no evidence that competition from these external markets has an adverse affect. Thus, despite the threat that they drain liquidity and cream-skim to harm the main market, these alternative trading mechanisms appear from our evidence to be Pareto improving for all investor classes and market participants regardless of which market is the major focus.

Fragmentation, upstairs trading, crossing networks, liquidity, cream skimming

Abstract:
Utilizing a database of daily institutional fund manager trades, we examine the contribution of strategic trading at quarter-end associated with potential 'portfolio pumping' or 'ramping up' of reported stock prices around quarter ends. We provide the first direct evidence that active fund managers tend to purchase illiquid stocks on the last day of the quarter, in stocks in which they already hold overweight portfolio positions. Consistent with the way fund managers are evaluated, we find the poor-performing managers display greater evidence of portfolio pumping. Both increased regulatory scrutiny and improvements to market microstructure design reduce the severity of stock price changes at quarter ends.

Gaming behavior, Window dressing, Portfolio pumping, Market manipulation

Abstract:
The present study provides simple tests of both agency and monitoring theory. In doing so it builds on the pioneering contribution of Hartzell and Starks (2003) (HS). Consistent with agency theory, we find that concentrated institutional investing is associated with higher executive compensation. Moreover, we bring into question monitoring theory reliant on concentrated monitors. Concentrated institutional ownership appears unrelated to option grant pay-for-performance (PPS) sensitivity. We reconcile our differences with HS by the indicating the importance of a methodology that does not exaggerate the role of firm size and use of robust firm size controls.

Executive compensation, Monitoring, Institutional ownership, Principal-agent, Incentives

Abstract:
Using a matched sample of firms that do and do not undertake major investments we find that CEO incentives with option-based asymmetric payoffs greatly increase the likelihood that a firm will increase risk by undertaking both major real investments and acquisitions. In contrast, equity-based incentives that induce upside and downside symmetric payoffs are associated with fewer major acquisitions and neither encourages nor discourages real investments. Fixed pay is associated with low likelihood of major investments and a poorer prognosis. When option-incentivized CEOs use equity for funding real investment decisions they have the best combination of incentives and funding source.

Acquisitions, Capital Expenditures, Incentives, Firm Performance, Risk

Abstract:
We present an integrated agency model of career concerns and labor market equilibrium. Unlike the existing literature, our managerial reservation utility levels and thus their pay levels are endogenously determined, and managers with high expected talent levels are not necessarily hired by large firms. A number of our theoretical results are supported by our panel data for 1992-2006 exclusive of time factors, which strikingly suggest that the average talent level of small firm CEOs is only slightly lower than that of large firm CEOs, but the talent variability of small firm CEOs is far greater than that of large firms. Moreover, a remarkable 55% of CEO-years indicate negative (real) productivity; and a sizeable portion of the increased real CEO pay levels in terms of higher productivity is attributable to both firm size and compensation for risk.

executive pay, firm size, career concern, CEO talent, principal-agent, optimal contract.

Abstract:
We present an integrated agency model of career concerns and labor market equilibrium. Unlike the existing literature, our managerial reservation utility levels and thus pay levels are endogenously determined, and managers with higher expected talent levels are not necessarily hired by large firms. A number of our theoretical results are supported by our empirical analysis utilizing our multi-period career-concerns model. We find that that CEOs employed by large firms have higher talent levels and are recruited from "tighter" talent distributions. We show that CEOs employed in larger firms are more productive due to scale economies in effort and more notably in talent. Talent is rewarded via both higher pay and CEO income from shareholdings. The model very accurately predicts firm performance and out of sample and also CEO pay levels. Finally, a sizeable portion of the increased real CEO pay levels over recent decades is explicable as compensation for sizeable increases in assets under management as well as for much higher risk.

executive pay, firm size, career concern, CEO talent, principal-agent, optimal contract

Abstract:
Adding a motivation for trading due to endowment differences to standard asset pricing assumptions, we investigate the impact of illiquidity due to small numbers of participants. We calibrate to observed activity levels, returns, transaction costs and volatility in equity markets. We show that, while the price of an illiquid asset is itself unaffected by its illiquidity, with the introduction of an equivalent liquid asset, which trades at a premium, we nonetheless replicate the findings of Mehra and Prescott (1985). The required transactional charges are modest in some calibrations. We show that the major part of the equity premium can be explained as a liquidity premium.

equity-premium puzzle, asset prices, liquidity, trading, transaction cost

Abstract:
We address the question of whether a stock exchange should reveal the identity of brokers placing limit orders utilizing five natural experiments. Euronext Paris and Brussels, the Tokyo Stock Exchange and the Australian Stock Exchange have all removed broker identification from the limit order book, while the Korea Stock Exchange has introduced broker identification. As predicted by Fishman and Hagerty (1995), anonymity increases the bid-ask spread for all stocks, but especially for smaller stocks with the highest information asymmetry. It also results in decreased trade volume and increased intraday volatility. We show that existing studies of these events suffer from an endogeneity problem that is overcome using strong instrumental variables.

Transparency, Opacity, Broker identity, Limit order book, Endogeneity

Abstract:
We present new direct empirical evidence in support of Rosen's (1982) 'cloning' hypothesis, explaining the overwhelming firm size-executive pay effect in terms of a predicted greater superiority in managerial talent the larger is the firm. We show that executives from better performing firms are more likely to join larger firms. In addition, utilizing 2SLS analysis the performance of the previous employer firm is a significant factor explaining the size of the firm the executive has joined. Remarkably, the prior performance of the firm which previously employed the executive is a more significant determinant of the executive's pay with the current employer than is current firm performance.

executive pay, firm size, managerial ability, firm performance, cloning hypothesis

Abstract:
CEO flow incentives, both stock options and bonuses, are positively related to measures of firm market valuation and operating performance suggesting incentives are an important mechanism to align CEO interests with shareholders. These findings are robust to alternative measures of firm valuation and operating performance. They are also persistent across various estimation techniques such as pooled OLS with clustered standard errors, firm random effects, and firm fixed effects and also after accounting for potential endogeneity between compensation and firm performance as well as firm heterogeneity. Providing CEOs with increased equity and bonus incentives is the "road to riches" for owners of a firm.

Incentives, CEO compensation, Market valuation, Operating performance

Abstract:
We investigate several implications of activism by institutional investors/monitors in the microstructure equilibrium postulated by Noe (2002). The decision whether or not to monitor, which reveals the firm's value to the fund, is stochastic. Empirically, we show that net-of-transaction-cost portfolio returns of the daily trades of active institutional fund managers are independent of their stock turnover rates. This is supportive of Noe's equilibrium in which the investor makes informed choices when she monitors and may trade "randomly" when she does not. We then identify the empirical counterpart to these "random" trades in the form of institutional "churning" trades of marginal profitability that have the effect of lowering rather than raising bid-ask spreads. These falls indicate the degree of success in camouflaging informed longer-term positions. While churning trades appear to be subject to psychological biases identified in the behavioral literature, we show that this is not the case, emphasizing their role in improving the institution's trading environment.

Short-term Trading, Disposition Effect, Portfolio Turnover, Institutional Activism, Monitoring

Abstract:
We exposit an integrated agency model of multi-period career concerns and labor market equilibrium with managerial reservation utility levels, and thus pay levels, determined endogenously for firms of different sizes. Based on observations from a long time-series of S&P 1500 companies, we estimate the stochastic production function describing the incremental wealth created by the manager as a function of “effort”, latent raw “talent”, idiosyncratic firm risk (asset volatility) and the opening value of assets employed. We show that CEO talent affects the marginal productivity of the firm at approximately twice the rate as effort. Since asset volatility is also more subject to scale effects than effort, risk per marginal product of effort is higher in larger firms. Due to the cost of compensating managers for risk, pay-performance sensitivity optimally declines with size. Furthermore, our talent estimates explain much of the increments to real CEO pay levels and income over recent decades as a response to increases in talent and as compensation for higher risk borne by executives, with firm size growth playing a negligible role. We also identify the most talented CEOs who earned enterprise returns 17 times higher than the CEOs of the largest firms.

executive pay, firm size, career concern, CEO talent, principal-agent

Abstract:
We propose a new measure of individual security timing ability as distinct from (aggregate) market timing ability. Security timing captures the proportion of potential returns generated by the fund manager over an evaluation period. Using a unique database of daily transactions, we examine the extent to which active fund managers are successful in timing their daily security entry and exit decisions. As hypothesized, we find that fund manager out-performance is significantly related to individual security timing.

Security Timing, Daily Trading, Performance Evaluation

Abstract:
This paper utilizes a system of structural equations and a unique intra-day dataset for 33 major exchanges making up 96% of world equity to evaluate the impact of transparency-enhancing stock market design features on transactions cost, volatility, trade size, trade numbers and traded value to explain relative global trading activity. We use this new methodology to evaluate transparency-related design features. We find that large stocks trade better in relatively opaque markets revealing little depth and with 'iceberg' orders but with disclosed broker IDs and immediate reporting of block trades, whereas small stock benefit from very transparent markets revealing depth, no icebergs, instant reporting and broker ID disclosure. With medium stocks, it is better to reveal depth, report immediately, but to allow iceberg orders and not encourage broker ID disclosure.

Market Design, Exchange trading systems, Transparency, Opacity, Decimalization

Abstract:
This study investigates the tax efficiency of actively managed equity funds by conducting a previously unaddressed natural experiment. Specifically, we examine whether asset sales were timed to take advantage of the introduction of a substantial discount to realized capital gains when the holding period was at least one year. Institutional equity fund management in Australia is principally focused on the pre-fee and pre-tax performance surveys of leading asset consultants. Given this industry setting, our study is important because tax efficiency is not accounted for directly in the reported performance numbers, and is thus opaque. We find that active fund managers overall have significantly increased the proportion of long-term capital gains realized after the change in taxation code, although there are significant variations across funds. We also find that active fund managers realize more long-term gains on both large capitalization and low volatility stocks.

portfolio management, capital gains tax, active management

Abstract:
Adding a motivation for trading due to endowment differences to standard asset pricing assumptions, we investigate the impact of illiquidity due to small numbers of participants. We calibrate to observed activity levels, returns, transaction costs and volatility in equity markets. We show that, while the price of an illiquid asset is itself unaffected by its illiquidity, with the introduction of an equivalent liquid asset, which trades at a premium, we nonetheless replicate the findings of Mehra and Prescott (1985). The required transactional charges are modest in some calibrations. We show that the major part of the equity premium can be explained as a liquidity premium.

equity-premium puzzle, asset prices, liquidity, trading, transaction cost

Abstract:
We evaluate the impact of stock market transparency and opacity design features on global trading activity, including the share of traded value for cross-listed stocks. Our methodology relies on a system of simultaneous structural equations estimated for the world's major exchanges. We find that in relatively opaque markets (those revealing little in the way of market depth), large stocks benefit from lower trading costs, lower volatility and higher traded value. Small stocks do best in highly transparent markets. Although several transparency features benefit all stocks, we conclude that transparency requirements can differ such that one design need not fit all stock sizes.

market design, exchange trading systems, transparency, opacity, decimalization

Abstract:
The role of blockholders on the register constitutes a significant puzzle. Concentrated blockholders could intervene (i.e., exercise "voice") so as to improve firm governance mechanisms. Alternatively, in theory at least, the presence of many blockholders could effectively discipline management if blockholders adopt the "Wall Street walk" (Edmans and Manso (2008)). Utilizing unique daily blockholder trading data, we obtain a number of significant results: (i) a sizeable portion of blockholder trading takes the form of "stock churning"; (ii) churning is profitable and, moreover, (iii) profitability diminishes in the number of blockholders-blockholders are thus informed and in receipt of a common signal; (iv) pricing efficiency is increasing in the number of blockholders trading simultaneously; (v) both the number of blockholders trading simultaneously and magnitude of the swings in these churning trades significantly improve long-term firm performance; (vi) when stock-overweight and concentrated blockholders do not churn there is no long-term effect; and (vii) blockholders seem to recognize the benefits of managerial discipline since stockholdings increase with churning activity. Thus we find that the "threat of exit" speaks more authoritatively than "voice".

Exit, Voting with your feet, Wall Street walk, Churning, Governance

Abstract:
We investigate monitoring of CEO incentives and pay levels by institutional investors. Consistent with the microstructural monitoring equilibrium of Noe (2002), we show that option-grant pay-performance sensitivity is positively related to institutional trading intensity. Trading intensity also raises CEO pay. This is to be expected with preservation of reservation CEO utility levels. Institutions with the smallest holdings and highest portfolio turnover rates have the largest positive effects on compensation levels. This is also consistent with Noe's equilibrium. Our OLS results are robust to firm random and fixed firm effects and potential endogeneity problems.

Incentives, CEO compensation, Institutional investor monitoring

Abstract:
The important and highly influential Amihud and Mendelson (1986) model of asset pricing incorporating immutable security trading by a continuum of investors/traders is unnecessarily opaque because of a flaw in the numerical simulation which I correct. Moreover, the exposition by Kane (1994) and Bodie, Kane and Marcus (2002) also fails to faithfully present the model. Putting aside these presentational issues, I show that the model is flawed because the marginal investor, on whom the analysis rests, cannot be identified. More fundamentally, the model fails to identify the benefits of trading whilst taking account of the costs. This one-sided treatment means that the model as it stands cannot be used to make valid predictions of the impact of transaction costs on asset prices.

asset pricing, liquidity, security trading, transactions cost, trading benefits

Abstract:
Following Constantinides' (1986) seminal approach and introducing transaction costs in the Pagano (1989) model, conventional CARA investors with heterogeneous endowments trade to construct optimal portfolios. We calibrate to the 1896-1994 equity and bond markets to show that gains from trade are high and, thus, investors require a high illiquidity premium even for a modest transactional charge. Excluding risk premia, exchange of equity and bonds by N strategic investors, as , under a mere 1% round-trip transaction cost induces a 6% illiquidity (equity) premium. Unlike existing literature, our findings are consistent with most stylized empirical facts. We recover the elasticity of trading demand from the excess equity return to confirm a major implication of the model. Among many other, so called, anomalies, we appear to explain the apparent "irrational exuberance" of equity markets, the 600% price premium for otherwise identical "A" stock over "B" stock in China, the low risk-free rate, the 20% letter stock premium and the lower return on "on the run" bonds. Because illiquidity premia do not necessarily imply consumption volatility, variance bounds tests become irrelevant.

equity-premium puzzle, asset prices, liquidity, trading, transactions cost

Abstract:
The present study addresses important issues raised by Hartzell and Starks (2003) (HS). HS indicate that concentrated institutional investors decrease executive salaries and total compensation, whilst raising option grant pay-for-performance sensitivity. These findings are in apparent contradiction to predictions of principal-agent models. We reconcile these differences by showing that HS are simply documenting the well known pay-size and incentive-size effects. These differences arise as a consequence of an ineffective size control and their construction of a measure of institutional influence dependent on firm size. Conditionally accepting the HS measure of institutional influence while addressing the ineffective size control shows that concentrated institutional investors do not increase incentives. Instead they increase executive fixed and total pay. A new measure of institutional influence is introduced that captures proxy voting power and is less influenced by an ineffective size control. It would now appear that institutional investors do increase both incentives and pay levels. Utilizing endogeneity tests based on instrumental variables, the HS concentration measure is positively related to total compensation while the new measure is negatively related to total compensation.

Executive compensation, Monitoring, Institutional ownership, Principal-agent, Incentives

Abstract:
We examine the price discovery process for cross-listing A- and H- shares, the Chinese stocks simultaneously listed in the Mainland China (MC) and the Hong Kong (HK) stock markets. The empirical results of a sample of 30 A-H stock pairs from 2001 to 2007 show that the prices for cross-listing A- and H- shares in MC and HK stock markets are becoming more and more cointegrated, displaying an evolution of the emerging stock market in MC as the relative trading frequency or trading volume improves in HK relative to MC. The MC market contributes to most of the price discovery, according to Hasbrouck’s (1995) IS method and the Gonzalo and Granger (1995) PT method. We then combine the results of econometrics method (IS and PT) with the decomposition of the bid-ask spread in market microstructure research. The regression results show a significantly positive relationship between Mainland China’s relative shares of price discovery using both IS and PT methods and its relative Adverse Selection Component of the effective relative spread, indicating that the reason for MC dominating price discovery is the informational advantage of MC domestic investors.

Price discovery, Cross-listing, Cointegration, Chinese securities

Abstract:
Recent results from the hedge fund literature provide evidence that option-based risk factors may be a significant factor in managed fund returns. By examining a unique database of high-frequency holdings and transactions from a representative sample of forty Australian equity funds we find that exposure to these option-based risk factors may well arise from trading activity rather than from derivative positions that generate similar payouts. While the resulting concave payout patterns are associated with large and significant alphas in our sample, these alphas may be more a compensation for a modest increase in tail risk exposure than they are a reward for information-based trading.

Performance measurement, market timing measures, disposition effect, overlay strategies

Abstract:
A number of results in liquidity asset pricing and market microstructure depend on the assumption that, when investors trade strategically, recognizing limited market participation (i.e. thin markets), trade volume impacts prices linearity with respect to order size. The assumption is usually made explicitly or implicitly in the traders' linear investment demand schedules or limit order books. Yet, in the reviewed literature, this assumption on investment demand is always imposed, rather than derived from investors' endowments and preferences for risk. In many cases, the result is that the lack of market depth has little or no impact on asset prices. We first show that the validity of these results depends strongly on the linearity assumption, as we demonstrate that investment demand linearity is equivalent to investors being homogenously price-sensitive regardless of endowment heterogeneity. We then eliminate the need for the assumption, endogenizing investment demand schedules from risk preferences instead, and show that, in the case of CARA investors facing a stream of normally distributed instantaneous dividends, the equilibrium demand is necessarily linear on prices, and thus that investors, regardless of differences in endowments, are all equally price-sensitive. This result reconciles the theory with both economic intuition and with empirical studies on price impact functions.

Abstract:
The recent paper by Goetzmann et al. (2002) suggests that fund managers subject to aperformance review have an adverse incentive to engage in portfolio strategies that have the unfortunate attribute that they can expose the fund investor to significant downside risk. Weisman(2002) uses the term â¬Sinformationless investingâ¬? to describe this behavior, and argues that these strategies are â¬Speculiar to the asset management industry in general, and the hedge fund industry inparticularâ¬? and that these strategies â¬Scan produce the appearance of return enhancement without necessarily providing any value to an investor.â¬? Just how prevalent are these practices in the fundmanagement business? On the basis of a unique database of daily transactions and holdings of a set of forty successful Australian equity managers, we find evidence that individual managers do engagein this trading behavior, particularly when they form part of a team within a large decentralized money management operation and are compensated in the form of an annual bonus based on performance. This result is broadly consistent with the theoretical and empirical results of theprincipal agent literature which highlight the adverse consequences for the long term objectives of principals where agents are compensated based on observable short term performance. It is also consistent with recent results from the behavioral finance literature which suggest that agentsnarrowly focus on individual security gambles independent of overall portfolio value considerations.

Informationless Trading, Sharpe Ratios, Performance Evaluation

Abstract:
The recent paper by Goetzmann et al. (2002) suggests that fund managers subject to a performance review have an adverse incentive to engage in portfolio strategies that have the unfortunate attribute that they can expose the fund investor to significant downside risk. Weisman (2002) uses the term â¬Sinformationless investingâ¬? to describe this behavior, and argues that these strategies are â¬Speculiar to the asset management industry in general, and the hedge fund industry in particularâ¬? and that these strategies â¬Scan produce the appearance of return enhancement without necessarily providing any value to an investor.â¬? Just how prevalent are these practices in the fund management business? On the basis of a unique database of daily transactions and holdings of a set of forty successful Australian equity managers, we find evidence that individual managers do engage in this trading behavior, particularly when they form part of a team within a large decentralized money management operation and are compensated in the form of an annual bonus based on performance. This result is broadly consistent with the theoretical and empirical results of the principal agent literature which highlight the adverse consequences for the long term objectives of principals where agents are compensated based on observable short term performance. It is also consistent with recent results from the behavioral finance literature which suggest that agents narrowly focus on individual security gambles independent of overall portfolio value considerations.

Informationless Trading, Sharpe Ratios, Performance Evaluation

Abstract:
The role of institutional investors on the register constitutes a significant puzzle. Concentrated investors could intervene (i.e., exercise 'voice') so as to improve firm governance mechanisms. Alternatively, acting as informed traders, they could effectively discipline management if they adopt the 'Wall Street rule' and engage in exit (Edmans and Manso (2009)). We derive the optimal incentive contract for a risk-averse manager in the presence of such traders. Then, utilizing unique daily institutional trading data, we show in conformity with the model: (i) a sizeable portion of institutional trading takes the form of 'stock churning'; (ii) churning is profitable, (iii) profitability diminishes in the number of investors trading simultaneously; (iv) trading activity is associated with improved pricing efficiency in the form of lower spreads and market impact costs; (v) the number of investors trading simultaneously and magnitude of churning swings due to higher noise-trader volatility significantly improve long-term firm performance; (vi) when concentrated investors do not churn there is no long-term effect; and (vii) investors appear to recognize the benefit of making stock price more sensitive to managerial action since institutional stockholdings are higher in stocks that investors churn. Thus the 'threat of exit' speaks more authoritatively than 'voice'.

informativeness, voting with your feet, Wall Street rule, churning, governance

Abstract:
International studies document strong evidence that chief executive officer (CEO) remuneration is positively correlated with corporate performance. Prior Australian studies, however, find no positive link between CEO pay and market performance. In the present paper we re-examine the association between Australian CEO remuneration and firm performance using standard empirical models from the international literature. We find that in every respect the Australian evidence is consistent with international findings for firms of the USA, UK and Canada. In particular, we document CEO pay-performance association as positive and statistically significant.

Abstract:
In 1999 the Korean Securities Exchange introduced its public limit order book displaying volume, price and broker identity to all market participants. Going against the general trend in market design, the KSE event provides important information for exchanges that are deciding between a transparent market, preferred by most participants, and an anonymous market accommodating large institutions and their brokers. Using several alternative metrics for market quality and estimation methodology accounting for fixed firm effects and endogeneity in explanatory variables, we find the expected effects on market quality. This is in contrast to most previous research, which supports the drive for opacity. We find that when limit orders are public, spreads fall, volatility increases and volume increases. The current policy of the Korean Stock Exchange to publicly display the 10 best orders, including broker identity and trades is provisionally best practice, as it promotes higher traded volume, the most important indicator of gains from trade within a trading system.

Transparency, Broker ID, Market Quality

Abstract:
In adverse-selection models of security market microstructure, a market-maker could enhance efficieny if he were willing to sustain short-term trading losses. We show that this deniable activity, which we term "facilitation", can be supported as a self-enforcing agreement between brokers-dealers and long-lived clients. The model predicts that brokers who provide facilitation services should also charge HIGHER (author's emphasis) fees to long-term clients for trades where the broker merely receives a commission. This prediction receives support from an analysis of brokerage rates on the Australian Stock Exchange. In addition, brokers who do not appear to provide facilitation services LOWER (author's emphasis) agency fees to large long-term clients.

Abstract:
Recent research strongly suggests that CEO incentive schemes are not solely determined by the standard considerations of risk-sharing and effort. Here, we examine the effect of the microstructure of the market in which the firm's shares are traded. If informed traders are free to choose both the size of orders they place on the market and the amount of information they gather, an increase in market liquidity makes the stock price more informative and increases the optimal linkage between CEO compensation and shareholder wealth. If on the other hand informed traders are severely restricted in their ability to take positions by considerations such as wealth constraints, increased liquidity reduces the informativeness of share price and dilutes optimal CEO incentives. We find evidence to support the second view in a sample of 329 large US corporations. Our sample contains firms that are listed on either the NYSE or the NASDAQ. The relationship between CEO incentives and the spread is significant and positive only for the NYSE firms, and NYSE firms have significantly higher pay-performance sensitivities. These results suggest a regulatory explanation whereby the monopoly specialist on the NYSE widens the bid-ask spread on small trades and subsidizes more informative large trades because of an affirmative duty to dampen large price movements.