• Selected
• Entire List

Abstract:
We employ a two-regime, nonlinear model and more than a century of data to investigate the time series behavior of the S&P Composite price-dividends and price-earnings ratios. On average, the ratios display continuation fuelled by investor sentiment in bull markets but they adjust toward their long run equilibrium levels in bear markets. Impulse response functions that simulate the effect of a shock on the future evolution of the ratios exhibit the typical underreaction-overreaction time profile postulated in behavioral theories of stock returns. Our results indicate that market sentiment plays an important role in the short run but fundamentals dominate in the long run ensuring overall mean-reversion.

Behavioral finance, underreaction-overreaction, threshold autoregression

Abstract:
We analyse the post-issue operating performance of 304 venture-backed and 264 non-venture UK IPOs 1985-2000. IPOs exhibit a significant five-year, post-issue operational decline over the full sample period. However this is driven by a particularly poor performance by venture-backed and non-venture IPOs during the 1998-2000 bubble while underperformance by both is insignificant 1985-1997. Cross-section regression results indicate a significantly positive relationship between post-IPO operating performance and venture capitalist certification 1985-1997 and a negative relationship with initial returns 1998-2000. We conclude that the bubble period points to the influence of both market timing and investor sentiment on long run operating performance.

Bubble, market timing, investor sentiment

Abstract:
We employ the Barberis, Shleifer and Wurgler (2004) methodology to investigate the impact of changes to the FTSE 100 index on return comovement over the 1992-2002 period. For FTSE stock inclusions the average increase in the beta coefficient is 0.38 in univariate regressions for weekly returns and 0.60 in bivariate regressions that control for the return on non-FTSE stocks. Stocks deleted from the index display the opposite pattern post exit. The results are robust to a number of factors including size, industry and non-trading effects. They are difficult to explain within a classical framework but complement those found for the US and Japan in supporting behavioral finance views of comovement.

Behavioral finance, trading-based comovement, index funds

Abstract:
Monte Carlo simulations are used to explore the small sample properties of a mean group and two pooled panel estimators of a regression coefficient when the regressor is I(1). We compare and contrast the effect of I(0) and I(1) errors and homogeneous and heterogeneous coefficients in a design based on two typical PPP panels. The results confirm that the asymptotic theory is relevant to practical applications. With I(0) errors and homogeneous coefficients, the estimators are unbiased, dispersion depends on the signal-noise ratio and falls at rate T(root-N) as expected. With I(1) errors and no cointegration, the estimators are unbiased and dispersion falls at rate root-N. When heterogeneity with I(0) errors is introduced, the dispersion of the pooled estimators falls at rate root-N but that of the mean group continues to fall at rate T(root-N). Finally, the pooled estimators are likely to lead to distorted inference both in the case of I(1) errors and of I(0) errors with heterogeneous coefficients. The mean group estimators, however, are generally correctly sized. An application to a panel of OECD economies suggests that the PPP hypothesis-nominal exchange rates and price differentials move one-for-one in the long run-seems to hold even if real exchange rates are subject to permanent shocks.

Monte Carlo, response surface, spurious regression, PPP

Abstract:
We examine competing agency theory and managerial power hypotheses on the role of Equity-Based Compensation (EBC) in the UK. Our study covers a unique sample of some 61 old and new economy firms over the 1997-2001 period. Despite the fact that new economy firms award much higher levels of EBC as compared with old economy firms, we find no evidence that such awards influence company performance in either sector of the economy. Our study also indicates that loss of office compensation payments have detrimental effects on the incentive-alignment power of EBC. These are novel finding for the UK and they are consistent with the managerial power view of EBC.

Managerial Compensation, Agency problems, ownership and control, Executive stock options

Abstract:
This is the first study of Rock's (1986) winner's curse hypothesis in which over-subscribed IPOs are allocated by a pure lottery mechanism. It employs a unique dataset of 562 Chinese IPOs 1996-2001 which provides information for the estimation of allocation-weighted returns. The results provide much stronger support than hitherto for the winner's curse hypothesis. Allocations are inversely related to underpricing in line with adverse selection. Weighting by allocation dramatically reduces median abnormal returns more than 200-fold from 116% and uninformed investors earn a median return of just 0.51%. The winner's curse can explain underpricing in our sample of Chinese IPOs.

Abstract:
We analyse the short run underpricing anomaly for a unique sample of 569 IPOs on the London Stock Exchange for the period 1985-2000 and find significant differences between the 1985-1997 period and 1998-2000 bubble period. Venture capitalists played a certification role in the former period but this ceased during the bubble years. These years featured significant increases in the average IPO proceeds, money left on the table, underpricing and a decline in operating quality. Furthermore, venture capitalists increasingly used prestigious underwriters with a history of underpricing during 1998-2000 which supports the corruption hypothesis of Loughran and Ritter (2004).

New issues puzzle, prospect theory; corruption hypothesis

Abstract:
Recently, the large T panel literature has emphasized unobserved, time-varying heterogeneity that may stem from omitted common variables or global shocks that affect each individual unit differently. These latent common factors induce cross-section dependence and may lead to inconsistent regression coefficient estimates if they are correlated with the explanatory variables. Moreover, if the process underlying these factors is nonstationary, the individual regressions will be spurious but pooling or averaging across individual estimates still permits consistent estimation of a long-run coefficient. The need to tackle both error cross-section dependence and persistent autocorrelation is motivated by the evidence of their pervasiveness found in three well-known, international finance and macroeconomic examples. A range of estimators is surveyed and their finite-sample properties are examined by means of Monte Carlo experiments. These reveal that a mean group version of the common-correlated-effects estimator stands out as the most robust since it is the preferred choice in rather general (non) stationary settings where regressors and errors share common factors and their factor loadings are possibly dependent. Other approaches which perform reasonably well include the two-way fixed effects, demeaned mean group and between estimators but they are less efficient than the common-correlated-effects estimator.

Factor analysis, global shocks, latent variables, Feldstein-Horioka, PPP

Abstract:
We examine the links between hot markets and momentum in explaining merger waves using a sample of 881 UK acquisitions from 1985 to 2000. We find evidence of short run positive abnormal returns (or merger momentum) in both hot and cold markets. We find evidence of long run reversal. The post acquisition abnormal returns are negative over three years for the whole sample. We also find an interesting pattern in the long run reversal. Mergers announced in hot markets have higher announcement period abnormal returns than mergers announced in cold markets consistent with momentum. Over a one year horizon there is a reversal in the abnormal returns consistent with investor sentiment: mergers announced in hot markets have lower negative returns than mergers announced in cold markets. Interestingly, the abnormal returns over three years show a further reversal and are higher for mergers announced in hot markets than for those announced in cold markets.

Irrational investors, Long-run underperformance

Abstract:
This paper assesses empirically two competing unemployment theories. It identifies one structural break in U.K. and German unemployment around 1980 that is more severe in both absolute and relative terms than that for the United States in 1973. This offers support for the structuralist theory. A nonlinear (TAR) model is used to capture fast-up, slow-down unemployment dynamics. Impulse response functions suggest that the half-lives of shocks are longer in the postbreak subsamples, especially in Europe, which places the persistence theory closer to the mark. We conclude that elements from both theories are needed for an adequate account of unemployment dynamics.

Asymmetries, structural breaks, hysteresis, threshold autoregression

Abstract:
This paper assesses empirically two competing accounts of high unemployment, the structuralist and persistence theories. It identifies one structural break in UK and German unemployment around 1980 which is more severe in both absolute and relative terms than that for the US in 1973. This offers support for the structuralist theory. A nonlinear, momentum-TAR model is used to capture fast-up, slow-down unemployment dynamics. Impulse response functions suggest that the half-lives of shocks are longer in the post-break subsamples, especially in Europe, which places the persistence theory closer to the mark. We conclude that elements from both theories are needed for an adequate account of unemployment dynamics.

Business cycle asymmetries, structural break, hysteresis

Abstract:
We divide the time series of aggregate valuation into bull and bear market phases to test for momentum and reversal, respectively. Our results are consistent with price-earnings and price-dividends displaying continuation by drifting upwards in bull markets irrespective of fundamentals. Such persistence can be explained by market sentiment but not within a classical framework. However the link to fundamentals is restored in bear markets where valuation ratios exhibit mean reversion toward their long run equilibrium levels and thus overall stationarity. Finally, impulse response functions indicate that shocks to the ratios typically follow an underreaction-overreaction time profile that is more pronounced in bull rather than bear markets.

Behavioral finance, underreaction-overreaction, threshold autoregression

Abstract:
We employ the Barberis, Shleifer and Wurgler (2005) methodology to investigate the impact of changes to the FTSE 100 index on return comovement 1992-2002. For FTSE entries, the average weekly increase in the beta coefficient is 0.38 in univariate regressions and 0.60 in bivariate regressions that control for the return on non-FTSE stocks. Stocks deleted from the index display the opposite pattern post exit. The results are robust to a number of factors including size, industry and non-trading effects. They are difficult to explain within a classical framework but complement those found for the US and Japan in supporting behavioral finance views of comovement.

Behavioral finance, trading-based comovement, index funds

Abstract:
We study the short-run wealth effect of a sample of 165 foreign divestitures by UK firms 1986-1995. These foreign asset sales by UK firms lead to significantly positive shareholder wealth effects of some 4.8% over the 10 days before and after the announcement day, which are several times larger than the corresponding wealth effects reported for US firms. Our findings are robust to factors such as size, market to book, and GARCH effects. We make adjustments for possible thin trading effects and for cross-sectional dependence in abnormal returns but our results are qualitatively unchanged. We conclude that the wealth gains are primarily associated with an increase in geographical focus than with increases in industrial focus, which is commonly associated with domestic divestitures. We also conclude that the market reacts more favourably to sales of assets that are located in non Anglo-Saxon corporate governance regimes when compared to assets located in Anglo-Saxon regimes.

International asset sales, industrial focus, geographical focus, corporate governance

Abstract:
A country's intertemporal budget constraint implies current account stationarity or that its saving and investment rates should cointegrate. However, such behaviour may not pertain in finite sample spans where the current account could be subject to persistent shocks. Accordingly, this paper reconsiders the Feldstein-Horioka puzzle for a panel of 12 OECD economies 1980I-2000IV using a mean group regression approach that is robust to persistent innovations and accounts for country heterogeneity and cross-sectional dependence. The mean group estimates are notably smaller than that from the conventional cross-section estimator and are statistically insignificant. Our findings support the view that capital is highly mobile in the long run for OECD economies despite persistence in the current account.

Abstract:
We analyse the post-issue operating performance of 316 venture-backed and 274 non-venture UK IPOs 1985-2003. The finding of a statistically significant five-year, operational decline exhibited over the full sample period is not robust. Rather it is driven by the dramatic under performance during the 1998-2000 bubble years while IPOs perform normally in the remaining years. Cross-section regression results indicate support for venture capital certification in the non-bubble years but a significantly negative relationship between operating performance and venture capitalist board representation during the bubble years. The bubble year under performance is explained by market timing and by low quality companies taking advantage of investor sentiment.

Abstract:
This paper investigates the impact of M&As on bidder (CEO and other) executive compensation employing a unique sample of 100 completed bids in the UK over the 1998-2001 period. Our findings indicate that less independent and larger boards award CEOs significantly higher bonuses and salary following M&A completion both for the full sample and for the UK and US sub-samples. UK CEOs and executives are rewarded more for the effort exerted in accomplishing intraindustry or large mergers than for diversifying or small mergers and their cash pay is unaffected by other measures of their managerial skill or performance. US bidders are rewarded at higher levels than their UK counterparts and their remuneration is related only to measures of CEO dominance over the board of directors. Overall our findings offer support for the managerial power rather than the agency theory perspective on managerial compensation.

Abstract:
We investigate the relation between UK accounting earnings volatility and the level of future earnings using a unique sample comprising some 10,480 firm-year observations for 1,481 non-financial firms over the 1985–2003 period. The findings confirm the in-sample result of an inverse volatility-earnings relation only for the 1998–2003 sub-period and for the most profitable firms. The out-of-sample forecast accuracy for the top earnings quintile improves when volatility is added as a regressor to a model including only lagged earnings. The findings are consistent with the over-investment hypothesis and the view that the earnings of the most volatile firms tend to mean revert more rapidly.

Abstract:
This paper uses threshold autoregressions to characterize asymmetries in adjustment dynamics and develops likelihood ratio tests to detect them. A robust bootstrap technique is proposed to circumvent the problem that the asymptotic distribution of the test statistics is non-standard. Monte Carlo simulations show that the bootstrap tests are correctly sized and are robust to near-unit roots and non-Gaussian errors. Their power is reasonable, improves sharply with the time series length and remains satisfactory for smooth transition autoregressions. Our approach combined with nonparametric tests can discriminate between asymmetries in adjustment dynamics and in innovations. An application to four monthly US dollar spot returns provides evidence of amplitude asymmetry.

Regime-switching, LR test, Bootstrap, Subsampling, Monte Carlo

Abstract:
This paper sheds light on US stock price deviations from fundamentals by analyzing the time-series dynamics of post-1870 S&P valuation ratios. It employs a non-linear, two-regime framework that allows for different behavior over phases of the stock market cycle. Persistence in the ratios implies prolonged price deviations from fundamentals stemming from short run continuation fueled by investor sentiment during bull markets. However, the pull from fundamentals ensures that valuation ratios and prices move toward their equilibrium levels in bear markets. Impulse response functions highlight sluggish adjustment and indicate that the effects of positive shocks are more pronounced and long-lasting in bull markets. The main conclusion is that, while market sentiment plays an important transitory role, valuation ratios do mean revert and so prices reflect fundamentals in the long run.

Fundamentals, Behavioral finance, Investor sentiment, Threshold autoregression

Abstract:
This paper analyses the contribution of various numerical approaches to making the estimation of threshold autoregressive time series more efficient. It relies on the computational advantages of QR factorizations and proposes Givens transformations to update these factors for sequential LS problems. By showing that the residual sum of squares is a continuous rational function over threshold intervals it develops a new fitting method based on rational interpolation and the standard necessary optimality condition. Taking as benchmark a simple grid search, the paper illustrates via Monte Carlo simulations the efficiency gains of the proposed tools.

Band-TAR, QR factorization, Givens rotations, Rational interpolation

Abstract:
This paper explores the long run behaviour and short run dynamics of quarterly UK real interest rates, 1950-1999, in a threshold autoregressive framework. Using bootstrap LR extensions of the Enders and Granger (1998) threshold unit root and asymmetry tests, it finds support for sign and amplitude asymmetric mean reversion. These findings provide one explanation for the apparent persistence in real interest rates and are consistent with asymmetric feedback rules for inflation targeting.

Fisher effect, inflation targeting, persistence, threshold autoregression

Abstract:
The short-run dynamics of German mark and US dollar real exchange rates are investigated for a panel of 19 OECD economies in a vector error correction framework for the 1973-96 period. The novel persistence profiles approach of Pesaran and Shin ("Cointegration and Speed of Convergence to Equilibrium", Journal of Econometrics, Vol. 71, (1996), pp. 117-143) indicates that the effect of system-wide shocks declines rapidly initially but decays slowly thereafter. It yields an average of just one year for the half-life of such shocks but some seven years before they fully dissipate. These half-life estimates are just one-quarter of the consensus estimates. Our results are consistent with non-linear adjustment and with monetary factors being the main source of real exchange rate volatility.

Abstract:
The base currency effect in the PPP literature refers to the stylised fact that tests on real exchange rates denominated in German marks are more likely to support mean reversion than analogous tests on US dollar rates. Using a panel of 19 OECD currencies and monthly data, 1973-97, three panel unit root approaches are employed to investigate this issue - the Im, Pesaran and Shin (1995) mean group ADF estimator in its standard and demeaned versions, a SUR-FGLS panel test procedure, and the Taylor and Sarno (1998) likelihood ratio approach. In particular we explore the view that the base currency effect can be attributed to neglected cross sectional dependence and/or heterogeneous serial correlation. The tests provide qualitatively similar verdicts for both dollar and mark real exchange rates. The conclusion is that evidence for a base currency effect disappears once one allows for cross sectional dependence. Finally the panel test results generally support long run PPP which may be explained by the fact that such tests retain most of their power in the presence of potential nonlinearities as shown by Taylor, Peel and Sarno (2000).

real exchange rates, panel unit root tests, cross sectional dependence, nonlinearities

Abstract:
Using threshold autoregressive specifications, this paper extends the Enders and Granger (1998) framework for parametric tests of level asymmetry. In particular it develops bootstrap likelihood ratio statistics to test the symmetry null against sign and amplitude asymmetries or a combination of both. Monte Carlo simulations show that the proposed tests have good size properties and reasonable power. Their use is illustrated by means of an application to nominal exchange rate changes, 1973M2-2000M2.

threshold autoregression, level asymmetries, Monte Carlo

Abstract:
We use the Coakley, Kulasi and Smith (1996) current account solvency model to investigate saving and investment in LDCs. This model implies that saving and investment cointegrate with a unit coefficient irrespective of the degree of capital mobility. Our panel and conventional unit root tests indicate that LDC current accounts are stationary. The Feldstein-Horioka cross section regression coefficient for LDCs is lower than the corresponding OECD coefficient indicating different policy responses in these countries rather than higher capital mobility. Finally adjustment toward solvency is slower in LDCs reflecting their vulnerability to external shocks and the impact of financial repression.