Working Papers

How is Earnings News Transmitted to Stock Prices?

With Charles Martineau

[Available on SSRN]

We study price formation around earnings announcements for S&P 1500 stocks from 2011 to 2015 using high-frequency, order-level data. We find that price discovery takes place in the after-hours market and is complete before the opening auction, or by 10 a.m. for stocks that have no after-hours trades. Initial price reactions occur upon the arrival of the first trades and are explained by earnings surprises, not by liquidity-taking order flow, consistent with the theoretical view that news can incorporate prices instantly. Moreover, sophisticated liquidity providers are active and profitable at that time. Despite fast price discovery, we find significant price drifts following big surprises in the after-hours market, which we relate to theoretical work on information processing.

Coordinating Attention: The Unintended Consequences of FOMC Press Conferences

With Oliver Boguth and Charles Martineau

[Available on SSRN]

In an effort to increase transparency, the Chair of the Federal Reserve now holds a press conference following some, but not all, Federal Open Market Committee announcements. Press conferences are scheduled independently of economic conditions and communicate little information. Evidence from financial markets demonstrates that investors lower their expectations of important decisions on days without press conferences and that these announcements convey less price-relevant information. Therefore, the addition of press conference probably decreased transparency. Moreover, we show that investors concentrate their attention on announcements with press conferences, which, in recent models of the social value of public information, can reduce welfare.

Inverted Fee Venues and Market Quality

With Carole Comerton-Forde and Zhuo Zhong

[Available on SSRN]

Stock exchanges incentivize the demand and supply of liquidity through their fee models. A traditional model pays a rebate to the liquidity supplier and an inverted model pays a rebate to liquidity demanders. We examine the impact of inverted fee models on market quality using an exogenous shock to inverted venue market share created by a regulatory intervention – the 2016 Tick Size Pilot. We show higher inverted venue share improves pricing efficiency, increases liquidity and decreases volatility. Our findings suggest that the finer pricing grid provided by inverted venues encourages competition between liquidity providers and improves market quality.

Double Bonus? Implicit Incentives for Money Managers with Explicit Incentives

With Juan Sotes-Paladino

[Available on SSRN]

Using a unique dataset of performance-fee mutual funds, we examine the interaction between direct and indirect incentives in the asset management industry. A comparison of the flow-performance relationships of performance-fee and non-performance-fee funds reveals that funds with direct incentives can face substantially steeper indirect incentives. Among performance-fee funds, the flow relationship depends on the performance fee level and tends to attenuate the asymmetry in total pay for good vs. poor performance. Altogether, our findings suggest that the market favors steep but symmetric ("linear") compensation schedules for asset managers. Our results shed new light on the contracting relation between delegating investors and their portfolio managers.

Do Mutual Fund Managers Adjust NAV for Stale Prices?

[Available on SSRN]

Mutual fund returns are predictable when the Net Asset Value is computed from prices that do not reflect all available information. This problem was brought to the public eye with the late trading and market timing scandal of 2003, which led to SEC intervention in 2004. Since these events, mutual fund managers have been more active in adjusting NAV, reducing predictability by about half. The simple trading strategy I present yields annual returns of 33% from 2001 to 2004 and 16% from 2005 to 2010. Even after accounting for trading restrictions in mutual funds, an arbitrager could earn annual returns of 2.73% from 2005 to 2010, suggesting the problem is not fully resolved. The main methodological contribution of this paper is to develop a filtering approach based on a state-space model that embeds the fund manager problem, thus accounting for unobserved actions of fund managers. I also show that predictability increases significantly when information sources suggested by prior literature, such as index and futures returns, are supplemented by premiums on related exchange traded funds).

Indexers and Comovement

[Available on SSRN] [Online Appendix]

I introduce a general equilibrium model with active investors and indexers. Indexing causes market segmentation, and the degree of segmentation is a function of the relative wealth of indexers in the economy. Shocks to this relative wealth induce correlated shocks to discount rates of index stocks. The wealthier indexers are, the greater the resulting comovement is. I confirm empirically that S&P 500 stocks comove more with other index stocks and less with non-index stocks, and that changes in passive holdings of S&P 500 stocks predict changes in comovement of index stocks.

Work in Progress

Price Formation around FOMC Announcements

With Oliver Boguth and Charles Martineau