Gambling Preferences, Options Markets, and Volatility [link](with Ben Blau and Ryan Whitby)Journal of Financial and Quantitative Analysis, 2016, 51(2): 515-540
This study examines whether the gambling behavior of investors affects volume and volatility in financial markets. Focusing on the options market, we find that the ratio of call option volume relative to total option volume is greatest for stocks with return distributions that resemble lotteries. Consistent with the theoretical predictions of Stein (1987), we demonstrate that gambling-motivated trading in the options market influences future spot price volatility. These results not only identify a link between lottery preferences in the stock market and the options market, but they also suggest that lottery preferences can lead to destabilized stock prices.
We examine when anomaly returns occur. We use a powerful database that contains the precise date on which accounting information is first made public. Despite recent findings to the contrary, once timing is considered, anomalies exist in the data. Anomaly returns are concentrated in the first 30 days after information announcements and all of the return occurs within the first 120 days. In recent years, anomaly returns are concentrated in the first five days after the announcement date. Moreover, hedge funds' reaction speed predicts their future performance. These results suggest that anomalies are real yet they are rapidly arbitraged away.
Institutional Investors, Short-Selling Constraints, and Information Acquisition
This paper highlights an important interaction between short-sale prohibitions and information acquisition. Investors faced with a short-sale prohibition acquire less information when the likelihood of trading is low. Unconstrained investors react to their competitors' constraint and acquire more information. Equilibrium prices are non-linear in fundamentals and price informativeness is asymmetric as a result of the short-sale prohibition. The novel predictions of the model are tested using unique measures of information acquisition from sophisticated market participants. When likely bound by their short-selling prohibition, investors decrease their information acquisition activity by up to 16%.
Anomaly Returns and Information Acquisition
Using conventional methods (i.e., annual rebalancing) to study anomaly returns shows no relationship between abnormal returns and information acquisition. However, using a more focused event-time approach to measure anomaly returns following precise information release dates, we show that abnormal returns are drastically reduced by increased levels of information acquisition from sophisticated investors. This result is robust across a large subset of anomalies, controlling for confounding factors such as size, and even within recent time-periods. Our results suggest that anomaly returns are not entirely spurious or the result of data-mining and are not wholly driven by omitted risk-factors. Instead, a large portion of anomaly returns are the result of mispricing and the slow-diffusion of value-relevant information.
(Not) Everybody's Working for the Weekend: A Study of Mutual Fund Manager Effort(with Richard Evans)
Do mutual fund managers achieve better results when they put in more effort? Yes. Using a novel measure of effort we show that mutual fund managers can significantly increase future returns when put in more effort. Further, increased effort on weekends and holidays drives this relation. We also explore cross-sectional and time-series variation in effort and compare competitive mutual fund families with cooperative families.
Failures-to-Deliver, Limited Arbitrage, and Anomaly Returns(with Jeremiah Green and Edward Swanson)
We study the impact of Failures-to-Deliver (FTD) on price efficiency and future returns. When a stock experiences high FTDs, this (i) predicts high future FTDs, (ii) reduces price efficiency, such as increasing bid-ask spreads and price-impacts, and (iii) predicts lower future abnormal returns. We show that among a large set of anomalies, high FTDs result in higher future anomaly returns, driven primarily in the short-leg. Further, we show the effect of FTDs on anomaly returns is time-variant; high FTDs do not effect anomaly returns immediately, but instead lengthen the period of time in which anomaly returns are earned. Our results all suggest that FTDs represent a limit to arbitrage driven by illiquidity in the equity lending market.