Finance →
- 18 Jun 2007
- Op-Ed
Leveling the Executive Options Playing Field
Harvard Business School professor Mihir A. Desai recently presented testimony to a U.S. Senate subcommittee looking at the subject of executive stock options. His theme: A "dual-reporting system" makes it difficult for investors and tax authorities to learn the real numbers. Closed for comment; 0 Comments.
- 06 Jun 2007
- Research & Ideas
Behavioral Finance—Benefiting from Irrational Investors
Do investors really behave rationally? Behavioral finance researchers Malcolm Baker and Joshua Coval don't think humans are such cold calculators. One proof: Individual and even institutional investors often give in to inertia and hold on to shares in unwanted stock. And therein lays opportunity for investment managers and firms. Key concepts include: Far from acting in their own best interest, many individual and institutional investors are more inertial than logical when it comes to emptying their portfolios of unwanted shares. Behavioral finance replaces the traditional and idealized idea of rational decision makers with real and imperfect people who have social, cognitive, and emotional biases. The resulting inefficiencies in the capital markets can create opportunities for investment managers and firms. Closed for comment; 0 Comments.
- 16 May 2007
- Working Paper Summaries
Growth and the Quality of Foreign Direct Investment: Is All FDI Equal?
Understanding the effect of foreign direct investment is important for two main reasons: It informs foreign investment policy, and it has implications for the effect of rapidly growing investment flows on the process of economic development. While academics tend to treat foreign direct investment as a homogenous capital flow, policymakers maintain that some FDI projects are better than others. In fact, national policies toward FDI seek to attract some types of FDI while regulating other types, reflecting a belief among policymakers that FDI projects differ greatly in terms of the national benefits to be derived from them. Policymakers from Dublin to Beijing, for instance, have implemented complex FDI regimes in order to influence the nature of FDI projects attracted to their shores. Using a dataset on 29 countries, Alfaro and Charlton distinguished different qualities of FDI in order to examine the various links between types of FDI and growth. Key concepts include: FDI at the industry level is associated with higher growth in value added. The relation is stronger for industries with higher skill requirements and for industries more reliant on external capital. FDI quality is associated with positive and economically significant growth. More research on the consequences of FDI is needed before promoting FDI. Closed for comment; 0 Comments.
- 30 Apr 2007
- Research & Ideas
All Eyes on Slovakia’s Flat Tax
The flat tax is an idea that's burst to life in post-communist Eastern and Central Europe, especially in Slovakia. But is the rest of the world ready? A new Harvard Business School case on Slovakia's complex experience highlights many hurdles elsewhere, as HBS professor Laura Alfaro, Europe Research Center Director Vincent Dessain, and Research Assistant Ane Damgaard Jensen explain in this Q&A. Key concepts include: Despite successful examples of tax reduction, introducing a flat tax in the U.S. or Western Europe is a long way off. Slovak reforms have clearly been attractive to foreign investors. Neighboring Austria, for instance, has lowered its corporate tax rate from 34 percent to 25 percent. One lesson to be learned from Slovakia is that any changes to fundamental tax habits need to be thoroughly explained to all individuals and groups affected by it. Flat taxes were relatively easier to introduce in Central and Eastern Europe because tax collection was limited under the communist regimes. With a flat tax, tax revenues were likely to increase. Closed for comment; 0 Comments.
- 20 Mar 2007
- Research & Ideas
What’s Behind China’s Wild Stock Ride?
Podcast: The recent one-day plunge of 9 percent in China's stock markets has continued to weigh heavily on other markets around the world. What caused the fall? Are more ups and downs to come? Professor Li Jin discusses the unique characteristics that drive Chinese stocks. Closed for comment; 0 Comments.
- 14 Mar 2007
- Op-Ed
Government’s Misguided Probe of Private Equity
The U.S Department of Justice has begun an inquiry into potentially anti-competitive behavior on the part of leading private equity firms. Professor Josh Lerner looks to history to underscore why this move carries the prospect of damaging what is actually an incredibly competitive industry that creates much value. Key concepts include: The Justice Department, which has little understanding of the nuances of the private equity business, could repeat missteps of the past by mistaking competition for collusion. Deal sharing, in the crosshairs of the inquiry, actually helps investors make better investment decisions, helps companies' managements, and helps limit risk. The benefits to society from widespread venture syndication appear to substantially outweigh the costs. Washington must understand that the many benefits private equity provides by facilitating economic growth are unlikely to be sustained if the heavy hand of government intrudes, whether through litigation or regulation. Closed for comment; 0 Comments.
- 12 Mar 2007
- Research & Ideas
The New Real Estate
Real estate continues to defy revert-to-the-mean gravity to deliver handsome returns to investors. Professor Arthur I. Segel looks at the latest developments in the field and also considers several warning clouds that could darken the picture. Closed for comment; 0 Comments.
- 19 Feb 2007
- Research & Ideas
Inexperienced Investors and Market Bubbles
The evidence isn't conclusive, but new research from Harvard Business School suggests younger fund managers may have contributed to the tech stock bubble. Professor Robin Greenwood discusses the research paper, "Inexperienced Investors and Bubbles," and what mutual fund investors should keep in mind. Key concepts include: The research supports theories that inexperienced investors are prone to buy assets with inflated prices during times of bubbles. Even professionals are susceptible to trend-chasing. Fund managers under the age of thirty-five were more likely than older managers to overly invest in tech stocks in the last bubble. Closed for comment; 0 Comments.
- 15 Feb 2007
- Research & Ideas
Helping Low-Income Families Save More
Marketers are quite efficient at targeting potential customers when they have money—that is, at tax-refund time. Professor Peter Tufano thinks tax time could also be perfect for helping low-income families save more. Closed for comment; 0 Comments.
- 12 Feb 2007
- Lessons from the Classroom
‘UpTick’ Brings Wall Street Pressure to Students
Money managers work in a stressful, competitive pressure cooker that's hard to appreciate from the safety of a business management classroom. That's why HBS professors Joshua Coval and Erik Stafford invented upTick—a market simulation program that has students sweating and strategizing as they recreate classic market scenarios. Closed for comment; 0 Comments.
- 22 Dec 2006
- Research & Ideas
What’s Behind the Private Equity Boom?
Podcast: On just one day in November, $52 billion worth of private equity deals were announced, and more than $200 billion worth of deals have been agreed to so far in 2006. The deals include such major names as Qantas ($8.7 billion), Hertz ($15 billion), and Clear Channel ($ 18.7 billion). Are public markets being eclipsed? Are investors and employees being victimized? Professor Josh Lerner looks at historical trends and current deals to put it all in perspective. Key concepts include: An influx of money on the equity side from pension funds and overseas investors is helping create an explosion of LBOs. Hedge funds have joined banks as major providers of debt, creating a market with more favorable terms for investors. Although there have been deals that have gone sour, the private equity boom can be seen as mostly beneficial for both investors and the companies involved. Closed for comment; 0 Comments.
- 20 Dec 2006
- Op-Ed
Investors Hurt by Dual-Track Tax Reporting
What corporations report in profit to the IRS and what they report to shareholders are often two different numbers—sometimes wildly so. That's why the IRS and Securities and Exchange Commission are proposing that companies publicly report taxes paid—and Professor Mihir Desai thinks this is only a first step. Key concepts include: Corporations are allowed to report different profit figures to capital markets and to tax authorities, creating large, unexplained gaps that potentially confuse investors. The IRS and SEC have jointly called for a simple but controversial proposal: Companies would be required to disclose how much they pay in taxes, an amount not now decipherable from public filings. More ambitious alternatives should be considered, including making corporate tax returns public, an end to the dual-book system, and a lower corporate tax rate on profits reported to capital markets. Closed for comment; 0 Comments.
- 11 Dec 2006
- Research & Ideas
Fixing Price Tag Confusion
"Partitioned" price tags that include a main price plus additional charges (Lamp: $70, Bulb, $5, Shipping: $15) may be confusing your customers. When is an all-inclusive price the best bet? Open for comment; 0 Comments.
- 04 Dec 2006
- Research & Ideas
The Money Connection—Understanding VC Networks
Venture capital firms often consider investments in companies located far away or in unfamiliar industries. How do they spot these opportunities and also reduce risk? It's the power of networks, says Harvard Business School professor Toby Stuart—and understanding how they work in VC is just now starting to be understood. Key concepts include: Networks are important in all industries, but especially so in VC where investment opportunities can be located far away from the centers of venture capital. "Spanning ties" enable investors with fixed locations and industry expertise to learn of opportunities outside their geographic and industry domains, while also reducing risk. Ties are more likely to form between VC firms in the context of bandwagons, such as a "hot" IPO market, that create a rush of excitement around particular types of companies. Closed for comment; 0 Comments.
- 29 Nov 2006
- Research & Ideas
Rich or Royal: What Do Founders Want?
It's a fundamental tension many entrepreneurs face, the conflict between wanting to become rich and wanting to keep control of their new company. Few can have both. Professor Noam Wasserman discusses his research into the motivations of entrepreneurs and the people who invest in them. Key concepts include: Entrepreneurs are often motivated by the potential of money and control, but very few ever achieve both. A fundamental tension between "rich and regal" starts to develop as entrepreneurs look to attract resources to grow their ventures. Investors need to understand the motivations of the entrepreneurs they back to make sure goals are aligned. Closed for comment; 0 Comments.
- 13 Nov 2006
- Working Paper Summaries
A New Framework for Analyzing and Managing Macrofinancial Risks of An Economy
The vulnerability of a national economy to volatility in the global markets for credit, currencies, commodities, and other assets has become a central concern of policymakers, credit analysts, and investors everywhere. This paper describes a new framework for analyzing a country's exposure to macroeconomic risks based on the theory and practice of contingent claims analysis. (A contingent claim is any financial asset for which future payoff depends on the value of another asset.) In this framework, the sectors of a national economy are viewed as interconnected portfolios of assets, liabilities, and guarantees that can be analyzed like puts and calls. The framework makes it transparent how risks are transferred across sectors, and how they can accumulate in the balance sheet of the public sector and ultimately lead to a default by the government. Key concepts include: The high cost of international economic and financial crises highlights the need for a comprehensive framework to assess the robustness of countries' economic and financial systems. Contingent claims analysis provides a natural framework for analysis of mismatches between an entity's assets and liabilities, such as currency and maturity mismatches on balance sheets. Policies or actions that reduce these mismatches will help reduce risk and vulnerability. This framework is useful to both the public and private sectors. Closed for comment; 0 Comments.
- 06 Nov 2006
- Research & Ideas
How South Africa Challenges Our Thinking on FDI
After the fall of apartheid, South Africa accepted the standard prescription for countries to receive more foreign direct investment. Yet FDI has been a mere trickle. Why? The answer may reside in the country's strong corporate environment, says HBS professor Eric D. Werker. Key concepts include: South Africa has received just a fraction of the foreign direct investment experienced by other comparable emerging-market economies, challenging some standard views about how FDI works. After apartheid, South African conglomerates had money to invest as well as a large market share within their industry. Foreign firms or asset managers who want exposure to South Africa might simply choose to go through financial markets. A major test of South Africa's infrastructure and security will be World Cup soccer in 2010. Closed for comment; 0 Comments.
- 25 Oct 2006
- Op-Ed
Fixing Executive Options: The Veil of Ignorance
Who says you can't rewrite history? Dozens of companies have been caught in the practice of backdating options for top executives. But this is only part of the problem with C-level compensation packages, which often motivate top executives to act in their own best interests rather than those of shareholders. Professors Mihir Desai and Joshua Margolis turn to philosopher John Rawls for a solution: Reward the execs, but don't give them the details. Key concepts include: Too often executive incentive packages are not aligned with the best interests of shareholders. Why create long-term value if your bread is buttered by quarterly performance? Option compensation could be restructured to ensure that managers were aware of the value of their compensation without any knowledge of the details of their compensation—a concept inspired by philosopher John Rawls' work on distributive justice. These options may only be useful for CEOs, senior officers, and directors—not middle management. Closed for comment; 0 Comments.
- 13 Oct 2006
- Working Paper Summaries
Pricing Liquidity: The Quantity Structure of Immediacy Prices
Researchers and participants in the market for securities have long been interested in the costs of transacting and the notion of liquidity as a performance measure of market structure. In real world capital markets, investors and corporations generally do not expect to transact at fundamental value. Rather, market participants face some degree of illiquidity, where they must sacrifice price, trade size, or speed of execution, forcing them to transact at prices away from fundamental value. The exact price of liquidity, however, is unknown. This paper develops an option-based model of the price of liquidity via the pricing of limit orders. Key concepts include: The model points to the competitiveness of market making as a potentially important driver of transaction prices. The model results in a simple formula that can be used to estimate transaction prices as a function of transaction size for individual securities, including very large transactions like corporate issues and takeovers. The uncertainty over transactable prices, relative to fundamental value, produces a liquidity risk. The model may be a useful step towards a new measure of liquidity risk. Closed for comment; 0 Comments.
Contracting in the Self-reporting Economy
Intellectual property can be used by its owner directly, licensed to a third party for a fixed royalty, or licensed to a third party for a variable royalty. The variable royalty arrangement depends on self-reporting by the licensee, which in turn induces demand for auditing by the licensor. This research studies a setting with the following features: a production cost advantage on the part of the outside party that creates gains from licensing; a limited liability constraint that prevents the licensee from owing more royalties than the gross profits of licensing the intellectual property and prevents the licensor from capturing all of the economic surplus via a fixed royalty agreement; and accounting and auditing costs that reduce the benefits of a variable royalty agreement. Key concepts include: The owner of intellectual property will enter into a variable royalty agreement with an outside party if—and only if—the accounting and auditing costs are sufficiently low. With higher cost levels, the owner will use the property directly if the owner can do so profitably. Otherwise, the owner will prefer to license the property in exchange for a fixed royalty. The expected aggregate accounting system and audit costs are minimized when the licensor can compel the licensee to bear the audit costs in case underreporting is detected. Internal control provisions within the Sarbanes-Oxley Act make variable royalty arrangements based on self-reporting and auditing relatively more attractive than such arrangements prior to Sarbanes-Oxley. Sarbanes-Oxley effectively lowers the licensor's audit costs even though the licensor must audit all low reports, because auditing all low reports deters the licensee from underreporting in the first place. Closed for comment; 0 Comments.