This dissertation consists of two essays on predictability of asset prices. "Benchmarking problems and long horizon abnormal returns" and, "Low R-square in the cross section of expected returns". Long run abnormal returns following Initial Public Offerings (IPOs), Seasoned Equity Offers (SEO) and other firm level events are well documented in the finance literature. These findings are difficult to reconcile in an efficient markets world. I examine the seriousness of potential benchmarking errors on the measurement of abnormal returns. I find that the simpler, more parsimonious models perform better in practice and finds that excess performance is not predictable regardless of the APM. Thus, the long run underperformance following SEOs found in the literature is consistent with market efficiency because excess performance itself is not predictable. In the other essay, "Low R-square in the cross section of expected returns", I examine the “low R-square” phenomenon observed in the literature. CAPM predicts exact linear relationship between return and betas (SML). This means that estimated time series betas for firms should be related with firms' future returns. However, the estimated betas have almost no relationship with future returns. The cross-sectional R2 are surprising low (3% average) while time series R2 are higher (around 30 % average). He develops a simple asset pricing model that explains this phenomenon. Even in a perfect world where there are no errors in the benchmark measurement or estimation of the price of market risk the difference in R-squares can be quite large due to the difference in variance between the "market" and average returns. I document that market variance exceeds the variance of average returns, with few exceptions, for the last 74 years.

Thesis advisor: Fabio Schiantarelli / In the wake of the financial crisis of 2007-2009, academics and policymakers have worked to empirically quantify macro-financial linkages. This dissertation contributes to this debate by covering two broad themes. First, substantial changes in bank regulation and supervision typically follow financial crises. Quantifying the impact of these new policies is of paramount importance to academics and policymakers. To this end, my research in this area sheds light on the ways in which changes in financial stability policy ultimately affect the economy. Bank stress testing has become a major tool of supervisory policy in the past decade. The first chapter, The Real Effects of Stress Testing, uses the introduction of annual stress testing of large U.S. banks in 2009 as a quasi-experiment to examine whether bank supervisory policies affect real economic activity. While stress-tested banks reduced their risk exposure to large corporate loans, foreign banks mostly offset this shock and enabled firms to continue borrowing after the test. However, speculative grade firms that were highly exposed to stress-tested banks borrowed on worse terms after the test, and subsequently reduced fixed investment and employment. In contrast, highly exposed investment grade firms received new loans and expanded intangible investment. This paper provides insights into the effects of stress testing on the reallocation of risks in the financial system and the consequences for real economic activity. The structure of the U.S. mortgage market has experienced dramatic changes in recent years, as Fannie Mae and Freddie Mac (the major government-sponsored enterprises or GSEs) faced substantial reforms to their business practices. An important feature of regulatory reform included changing the pricing of loan guarantees on mortgage-backed securities insured by the GSEs, in particular removing the subsidy paid by small lenders to large lenders in 2012. The second chapter of this dissertation, Lender Cross-Subsidization and Credit Supply in the Fannie Mae MBS Market (co-authored with Igor Karagodsky), shows that the removal of this subsidy resulted in a relative increase in mortgage lending by small lenders. However, states with relatively higher concentrations of large lenders experienced relative reductions in credit following the removal of these subsidies. This research underscores an important link between lender market power and credit supply. Understanding the drivers of the fluctuations in bond returns is a central question in finance. Theoretically, unexpected bond returns should reflect either changes in expectations of future short-term rates or future compensation for risk. The third chapter of this dissertation, Survey Forecasts and Bond Return Decompositions, revisits this question using survey forecasts of professional economists to measure expectations of interest rates and returns, rather than with a statistical model. Two main results emerged from this analysis: (1) News about future short-term interest rates explains relatively more of the variation in unexpected excess bond returns for short-maturity bonds relative to long-maturity bonds. (2) The share of news explained by future short-term interest rates increases with horizon for all maturities. This analysis contributes to the recent academic literature that highlights the importance of subjective expectations in understanding asset-price movements. / Thesis (PhD) — Boston College, 2019. / Submitted to: Boston College. Graduate School of Arts and Sciences. / Discipline: Economics.

While some prior studies document that investors overreact to information in sales growth as consistent with representativeness bias, other studies find no evidence of investor overreaction to either sales or earnings growth. Other recent studies also show that sales growth does not predict stock returns after controlling for changes in outstanding shares and asset growth. I reexamine the role of representativeness by investigating whether the effects of this bias are confounded by the presence of another effect that has been extensively documented - investors' underreaction to fundamentals. Adjusting for investor under-reaction to fundamentals, I document strong evidence that investors overreact to sales growth as predicted under representativeness despite adding accruals, asset growth, and equity issuance as additional controls. In cross-sectional regressions of future stock returns on predictive variables that control for fundamentals, changes in equity shares, accruals, and lagged 36 month returns, I find that the coefficient on sales growth is highly significant over both the full sample period 1970-2009 (t-stat -3.12). Furthermore, asset growth, equity issuance, and accruals lose much of their significance in favor of sales growth. I also provide evidence that rejects a theory based on fixation in favor of representativeness. These results document evidence of overreaction to past sales growth in firms where underreaction to fundamentals does not confound the overreaction due to representativeness bias.

This thesis studies information in financial markets from three perspectives: the role of information asymmetry in alleviating dividend payers’ seasoned equity offering (SEO) announcement returns, the leading behavior of equity analysts who collect and process information, and the pricing of productivity-related information. More specifically, Chapter 1 studies whether the market reacts less negatively to dividend payers’ SEO announcements. Using US data from 1975 to 2002, I find that prior to SEO announcement dates, dividend payers have less information asymmetries than non-dividend payers. This difference was not large before the mid-1980s, but increased dramatically since then. This finding, together with the disappearing dividend puzzle documented in Fama and French (2001), suggests that a firm’s dividend status was not an important signal for SEOs prior to the mid-1980s, but became important since then. The market reacts less negatively to dividend payers’ SEO announcements since the mid-1980s. Chapter 2 studies equity analysts’ leading behavior in equity recommendations. I develop a measure of leading recommendations based on the observation that other recommendations move towards those of the leader. I find that analysts who are more likely to lead are past leaders, past All-American stars, analysts from large brokerage houses, and analysts with fewer recommendations. I find that the market reacts more strongly to recommendations of leaders and leaders are less likely to be terminated from their jobs. Chapter 3 examines the link between productivity and the cross-section of security returns. The CAPM and CCAPM have had problems finding empirical validations. In contrast, by creating factor mimicking portfolios with respect to productivity, I introduce a stock market factor that mimics the driving force behind the CCAPM. First, I find that the productivity factor affects the overall market return and that on average it contributes 0.75 to 2.41 percent annually, for the range of productivity factors I construct. Further, I show that productivity is priced even when the market excess return and factors based on size and book-to-market are included in standard asset pricing tests. However, the market excess return and the book-to-market factor still explain asset returns.

This thesis studies information in financial markets from three perspectives: the role of information asymmetry in alleviating dividend payers’ seasoned equity offering (SEO) announcement returns, the leading behavior of equity analysts who collect and process information, and the pricing of productivity-related information. More specifically, Chapter 1 studies whether the market reacts less negatively to dividend payers’ SEO announcements. Using US data from 1975 to 2002, I find that prior to SEO announcement dates, dividend payers have less information asymmetries than non-dividend payers. This difference was not large before the mid-1980s, but increased dramatically since then. This finding, together with the disappearing dividend puzzle documented in Fama and French (2001), suggests that a firm’s dividend status was not an important signal for SEOs prior to the mid-1980s, but became important since then. The market reacts less negatively to dividend payers’ SEO announcements since the mid-1980s. Chapter 2 studies equity analysts’ leading behavior in equity recommendations. I develop a measure of leading recommendations based on the observation that other recommendations move towards those of the leader. I find that analysts who are more likely to lead are past leaders, past All-American stars, analysts from large brokerage houses, and analysts with fewer recommendations. I find that the market reacts more strongly to recommendations of leaders and leaders are less likely to be terminated from their jobs. Chapter 3 examines the link between productivity and the cross-section of security returns. The CAPM and CCAPM have had problems finding empirical validations. In contrast, by creating factor mimicking portfolios with respect to productivity, I introduce a stock market factor that mimics the driving force behind the CCAPM. First, I find that the productivity factor affects the overall market return and that on average it contributes 0.75 to 2.41 percent annually, for the range of productivity factors I construct. Further, I show that productivity is priced even when the market excess return and factors based on size and book-to-market are included in standard asset pricing tests. However, the market excess return and the book-to-market factor still explain asset returns.

We introduce a simple asset pricing model with two types of adaptively learning traders, fundamentalists and technical traders. Traders update their beliefs according to past performance and to market conditions. The model generates endogenous price fluctuations and captures some stylized facts observed in real returns data, such as excess volatility, fat tails of returns distributions, volatility clustering, and long memory. We show that the results are quite robust w.r.t. to different choices for the performance measure. (author's abstract) / Series: Report Series SFB "Adaptive Information Systems and Modelling in Economics and Management Science"

This thesis analyzes the nature of foreign equity trades in relation to their effects on local markets. My goal is to contribute to the understanding of equity flows of foreign investors and their effect on the local markets. The thesis consists of two chapters, both of which employ a novel data set that is consisted of monthly equity flows by foreign investors at Istanbul Stock Exchange of Turkey. The first chapter, Foreign Ownership and World Market Integration, aims to explain the de facto financial market integration with global markets with foreign equity ownership using a novel data set of foreign portfolio flows at the individual stock level. The main result is the positive link between global nancial integration and past portfolio in flows by foreign investors on the cross-section of local stocks. The results have high economic significance: Across individual stocks a 1.4% increase in foreign portfolio inflows corresponds to up to 3.3% greater relative explanatory power of the global factor in explaining local stock returns in the following month. The results are indicative of a causal link: The lead-lag effect between foreign portfolio inflows and financial integration does not exist in the opposite direction. I show that stocks that experience an increase in foreign ownership are not more financially integrated in the past, i.e. the foreign portfolio flows are not a response to increased financial integration. The second chapter is titled as Uninformed Momentum Traders and it studies the relationship between momentum trading and information. I present evidence that supports the hypothesis that momentum trading is linked to a lack of information. I document significant momentum trading by foreign investors in stocks on which they potentially have more informational disadvantages. Small stocks, stocks with high volatility and low liquidity, stocks that are financially less integrated and have greater foreign exchange risk are subject to greater momentum trading. Moreover, stocks on which foreign trades indicate lower future profitability are subject to higher momentum trading. Additionally, I show that momentum trades by foreign investors exert contemporaneous price pressure and have no valuable longer-run information content. The contemporaneous price pressure of 2.30% per month is followed by a significant return reversal in the following two quarters. Finally, there is strong evidence that foreign investors do not possess local market speci c information. Momentum trading by foreign investors is triggered by the past profitability of the momentum factor in the local market. However, the negative pro tability of momentum makes momentum trading a sub-optimal trading strategy.

This thesis analyzes the nature of foreign equity trades in relation to their effects on local markets. My goal is to contribute to the understanding of equity flows of foreign investors and their effect on the local markets. The thesis consists of two chapters, both of which employ a novel data set that is consisted of monthly equity flows by foreign investors at Istanbul Stock Exchange of Turkey. The first chapter, Foreign Ownership and World Market Integration, aims to explain the de facto financial market integration with global markets with foreign equity ownership using a novel data set of foreign portfolio flows at the individual stock level. The main result is the positive link between global nancial integration and past portfolio in flows by foreign investors on the cross-section of local stocks. The results have high economic significance: Across individual stocks a 1.4% increase in foreign portfolio inflows corresponds to up to 3.3% greater relative explanatory power of the global factor in explaining local stock returns in the following month. The results are indicative of a causal link: The lead-lag effect between foreign portfolio inflows and financial integration does not exist in the opposite direction. I show that stocks that experience an increase in foreign ownership are not more financially integrated in the past, i.e. the foreign portfolio flows are not a response to increased financial integration. The second chapter is titled as Uninformed Momentum Traders and it studies the relationship between momentum trading and information. I present evidence that supports the hypothesis that momentum trading is linked to a lack of information. I document significant momentum trading by foreign investors in stocks on which they potentially have more informational disadvantages. Small stocks, stocks with high volatility and low liquidity, stocks that are financially less integrated and have greater foreign exchange risk are subject to greater momentum trading. Moreover, stocks on which foreign trades indicate lower future profitability are subject to higher momentum trading. Additionally, I show that momentum trades by foreign investors exert contemporaneous price pressure and have no valuable longer-run information content. The contemporaneous price pressure of 2.30% per month is followed by a significant return reversal in the following two quarters. Finally, there is strong evidence that foreign investors do not possess local market speci c information. Momentum trading by foreign investors is triggered by the past profitability of the momentum factor in the local market. However, the negative pro tability of momentum makes momentum trading a sub-optimal trading strategy.

This thesis examines risk factors in the UK Stock Market. This objective is achieved by testing the validity of the Capital Asset Pricing Model (CAPM) and the Arbitrage Pricing Theory (APT). The models were tested using data for the period between 1972 to 1993. Test of the CAPM was conducted by examining the relationship between stocks returns and systematic risk as measured by beta. By regressing returns against estimates of beta, the results showed that for the overall period the relationship was negative and the estimated risk premium is smaller than the observed risk premium. The results in sub-periods also failed to validate the model. However, examining the results under up and down-market conditions, showed some support to the usefulness of beta. Beta is a good predictor of average returns under down-market conditions as well as under extreme up-market conditions. Test of the APT entails the detennination on the number of factors, estimating the sensitivities or risks of stocks to these factors and finally the pricing of these risks. This study used the Principal Components Analysis (PCA) for the first two procedures. A two stage PCA was performed specifically for short sub-periods of data. The stability of the factor structure across sub-periods was also examined. For the third procedure, a cross-sectional regression between returns and the sensitivities was performed and the risk premia was estimated. The results showed that the number of factors were consistent across sub-periods. A PCA on any sample of stocks cou1l produce a first factor that is common among stocks, while other factors are more sample specific. The study found at least one significant risk premium in all the sub-periods. The first factor was the most likely to produce a significant risk premium. The sensitivities of the stocks to the factors were found to differ across sub-periods, but the risk premia remain constant. This suggests the factor structure may be stable. This thesis then identifies the economic nature of the factors. The factors were regressed against a selection of macroeconomic variables. The result showed that the first factor is related to stock market return, money supply, US and European exchange rates and dividend yield. The first factor from small size firms and low beta stocks are strongly related than usual to money supply. The second factor is related to default risk, term structure and stock market returns.

The aim of this master thesis is to examine the explanatory power of some popular company-specific factors for the cross-section of average stock returns in the Istanbul Stock Exchange (ISE) for a period from 1992 to 2001. Factors tested in this thesis are firm size (MVE), book-to-market value of equity (BMR), debt-to-equity ratio (DER), sales-to-price ratio (SPR), gross profit-price ratio (GPPR) and dividend yield (DY).