Retail Trader Sophistication and Stock Market Quality: Evidence from Brokerage Outages (with Clifton Green, Brian Roseman, and Yanbin Wu)

  • Featured in Financial Times, MarketWatch, Bloomberg, The Verge, Trader's Magazine, Marginal Revolution

Abstract: We study brokerage platform outages to examine how retail investor sophistication influences their impact on financial markets. We contrast outages at Robinhood, which caters to inexperienced investors, with outages at more traditional retail brokers. Exogenous negative shocks to Robinhood (other broker) participation are associated with reduced (increased) market order imbalances, consistent with unsophisticated investors being more likely to herd. Robinhood (other broker) outages are associated with increased (decreased) market liquidity and lower (higher) return volatility. The findings suggest that unsophisticated retail investors create inventory risks for market makers that harm liquidity, whereas other retail investors serve to improve market quality.

Peer Selection and Valuation in Mergers and Acquisitions (with Feng Guo, Tingting Liu, and Micah Officer)

  • Journal of Financial Economics, Forthcoming

Abstract: Using unique data, this paper examines investment banks’ choice of peers in comparable companies analysis in mergers and acquisitions. We find strong evidence that product market space is amongst the most important factors in peer selection. Banks tend to strategically select large, high growth peers with high valuation multiples, factors that are also positively related to deal premiums. Our evidence is consistent with target-firm advisors selecting peers with high valuation multiples to negotiate a higher takeover price. However, in some deal types, target advisors appear to choose peers with low multiples to ease the process of obtaining target shareholder approval.

Measuring Institutional Trading Costs and the Implications for Finance Research: The Case of Tick Size Reductions (with Paul Irvine and Tingting Liu)

  • Journal of Financial Economics, 2021, 139 (3), 832 - 851

Abstract: We demonstrate that many widely used liquidity measures do not adequately capture institutional trading costs. Using proprietary data, we construct a price impact measure that better represents the costs faced by institutional investors. We find that price impact is not correlated with many common liquidity proxies. In addition, institutional trading costs are not dramatically impacted by decimalization, casting doubt on the widely used identification strategy that employs decimalization as an exogenous shock to liquidity, particularly institutional liquidity. Indeed, we find that conclusions from prior research are significantly altered when we measure liquidity using institutional trading data.

Rethinking Measures of Mergers & Acquisitions Deal Premiums (with Tingting Liu and Micah Officer)

  • Journal of Financial and Quantitative Analysis, 2021, 56 (3), 1097 - 1126

Abstract: Most academic studies use fixed pre-announcement event days (such as -20, -42, or -63) to measure unaffected target-firm stock prices. In this paper, we demonstrate that the use of fixed pre-announcement event days generates downward bias in measured premiums, especially for more recent samples and for transactions with long deal processes (such as target-initiated deals). We take account of this bias by hand-collecting deal initiation dates and demonstrate that using these dates results in measured premiums that give contradictory conclusions to those found in the existing literature. We also offer guidance for measuring M&A premiums if hand-collecting data is impractical.

Micro(structure) before Macro? The Predictive Power of Aggregate Illiquidity for Stock Returns and Economic Activity (with Yong Chen and Bradley Paye)

Abstract: This paper constructs and analyzes various measures of trading costs in US equity markets covering the period 1926-2015. These measures contain statistically and economically significant predictive signals for stock market returns and real economic activity. We decompose illiquidity proxies into a component capturing aggregate volatility and a residual. The predictive content of these components differs in important ways. Specifically, we find strong evidence that the component of illiquidity uncorrelated with volatility forecasts stock market returns. Both the volatility and residual components of illiquidity contain information regarding future economic activity.

Payout Yields and Stock Return Predictability: How Important is the Measure of Cash Flow? (with Bradley Paye)

Abstract: We compare the stock return forecasting performance of alternative payout yields. The net payout yield produces more accurate forecasts relative to alternatives, including the traditional dividend yield. This remains true even after excluding several years during the Great Depression when issuance was unusually high. The measure of cash flow used to form the yield matters economically. Long-term investors' hedging demand for stock is considerably reduced when net payout, rather than dividends, serves as the cash flow measure. An agent relying on an incorrect payout measure is willing to pay an economically significant "management fee" to switch to the optimal policy.