Finance →
- 07 Sep 2006
- Working Paper Summaries
Optimal Value and Growth Tilts in Long-Horizon Portfolios
Long-term investors look for portfolio strategies that optimally trade off risk and reward, not in the immediate future, but over the long term. It is unrealistic to expect long-term investors to adopt an "invest and forget" strategy, but creating a portfolio strategy that adjusts asset allocations in response to changing risk premia, interest rates, and expected inflation remains a challenge in finance. Jurek and Viceira have devised a solution method that aims at a practical implementation of dynamic portfolio choice models with realistically complex investment opportunity sets. They have applied their method to study the role of value stocks and growth stocks in the portfolios of long-term investors, and have found that long-term investors might want to tilt their portfolios away from value stocks despite the fact that the average return on value stocks is larger than the average return on growth stocks (the so-called "value premium"). Their findings provide support for the idea that the superior performance of value stocks might reflect simply that they are riskier than growth stocks at long horizons. Key concepts include: The solution can be readily implemented for investment opportunity sets with any number of assets and state variables. On average, equity-only investors with short horizons optimally choose portfolios that are heavily tilted toward value and away from growth, regardless of the investor's risk aversion. Aggressive short-term investors find it best to tilt their portfolios toward value because of their higher average return. Conservative equity-oriented investors optimally tilt their portfolios toward value stocks because of their small return volatility and high correlation with growth. However, for investors with longer horizons, the optimal allocation to value decreases dramatically as the optimal allocation to growth increases. Value stocks appear to be riskier than growth stocks at long horizons because they tend to be more highly correlated with permanent shocks to the value of the aggregate stock market, while growth stocks appear to be more highly correlated with transitory shocks. In the presence of time varying risk premia, interest rates, and expected inflation, it is optimal for most investors to dynamically rebalance their portfolios in response to changes in investment opportunities. The paper finds that for long-horizon investors who can invest in equities, bond, and cash, welfare losses from adopting investment policies with infrequent reevaluation of portfolio weights are large, regardless of the investor's risk aversion. Closed for comment; 0 Comments.
- 17 Aug 2006
- Working Paper Summaries
Corporate Governance and Networks: Bankers in the Corporate Networks of Brazil, Mexico, and the United States circa 1910
Brazil today looks like a typical case in which business groups and close relations between companies and banks play an important role to overcome information and monitoring problems. This was not always the case. To study how the development of financial markets can change the interaction between banks and corporations, Musacchio compared the importance of interlocking boards of directors between corporations and banks in Brazil, Mexico, and the United States at the turn of the twentieth century. This paper and previous research support Musacchio's hypothesis that financial markets in Brazil were sustained by an institutional framework that protected investors, enforced credit contracts, and promoted regular financial disclosure of company accounts. The development of bond and stock markets, and the relatively good corporate governance practices in Brazil before 1930, made connections with bankers less necessary. Key concepts include: Even though Brazil, Mexico, and the United States had very different network structures, all three achieved rapid industrial growth before 1910. Connections with bankers might be good in an environment where access to credit is limited or where close relations help to reduce asymmetries of information. But once financial markets develop, these connections to lenders are less necessary. The development of good disclosure and corporate governance practices in Brazil circa 1910 allowed companies to depend less on connections with banks in the form of corporate bond interlocks. In Brazil, bankers were less central in the network of corporate board interlocks than in Mexico and the United States. In Mexico, foreign companies had access to financial markets abroad and fewer connections with banks. This strong, dense network in Mexico substituted for some of the institutions that promoted financial development and growth in Brazil. While most people see networks and financial markets as substitutes, networks in the United States functioned as complements to financial markets. Networks may successfully substitute for some institutions and generate the credible commitments that are necessary for the expansion of markets. Closed for comment; 0 Comments.
- 05 Jul 2006
- Research & Ideas
Reinventing the Dowdy Savings Bond
Families with low and moderate incomes have difficulty saving money—many can't even open bank accounts. To help these families plan for the future, professor Peter Tufano proposes minor changes to the U.S. savings bonds program. Key concepts include: Encourage savings by offering the option to invest tax refunds in U.S. savings bonds. Closed for comment; 0 Comments.
- 05 Jul 2006
- Working Paper Summaries
Float Manipulation and Stock Prices
When a firm reduces the number of shares available to trade, so-called float manipulation, the price of the stock is often driven up. The author uses a series of 2,000 stock split events in Japan as an experiment to understand the consequences of float manipulation for stock prices. The conclusion: Stock prices are raised significantly when there are differing opinions about the value of shares, investors are unable to sell short, and the number of outstanding shares is reduced. Key concepts include: Firms may use a float reduction as an opportunity to raise equity, or managers may exploit it as an opportunity to sell overpriced shares. Closed for comment; 0 Comments.
- 05 Jul 2006
- Working Paper Summaries
A Cross-Sectional Analysis of the Excess Comovement of Stock Returns
This paper develops cross-sectional predictions from a model in which the excess comovement of stock returns comes from correlated demand shocks. The model is tested on 298 Nikkei index stocks and 1,458 non-index stocks for the years 1993 through 2003. The study finds that controlling for index membership, index overweighting is a significant determinant of the comovement of returns with index returns. Key concepts include: Correlated investor demand for securities causes periodic and widespread mispricing. Members of arbitrarily weighted stock indexes, oftentimes "liquid" securities, are subject to frequent mispricing. Closed for comment; 0 Comments.
- 05 Jul 2006
- Working Paper Summaries
Analyst Disagreement, Forecast Bias and Stock Returns
It is well documented that financial analysts' opinions are reflected in stock prices. The problem: Analysts often operate under incentives that are inconsistent with telling the truth. Retail investors, who tend to be less sophisticated, may fail to make proper adjustments for the more nuanced of the resulting biases, some of which might be reflected in market prices. To study the scope of market efficiency, Scherbina studied analysts' incentives, resulting forecast biases, and their potential impact on market prices. Key concepts include: When the level of analyst disagreement about future earnings is high, the average forecast tends to be overly optimistic. The "marginal investor," on average, fails to interpret analysts' earnings forecasts with an eye to inherent biases. Sophisticated investors have a beneficial effect on market efficiency. Closed for comment; 0 Comments.
- 05 Jul 2006
- Working Paper Summaries
Reinventing Savings Bonds
At one point in American history, savings bonds were an important tool families used to build assets and get ahead. While times have changed, this function of savings bonds may be even more important now, especially for the 41 million low- and moderate-income American households. Tufano and Schneider lay out a case for why savings bonds should be reimagined to help millions of Americans build assets now. Key concepts include: Allow taxpayers to purchase bonds with Federal tax refunds. Help low- and moderate-income families redeem their bonds before twelve months. Enlist private sector social marketing for savings bonds. Find a role for savings bonds in the life cycles of low- and moderate-income families. Make the process of buying savings bonds more user friendly. Closed for comment; 0 Comments.
- 03 Apr 2006
- Research & Ideas
The Competitive Advantage of Global Finance
Relatively few multinational companies truly understand or take advantage of international finance. Professor Mihir A. Desai tackles the subject in a new book, International Finance: A Casebook. Here’s a Q&A. Closed for comment; 0 Comments.
- 19 Mar 2006
- Research & Ideas
Unlocking Your Investment Capital
By reassessing risk exposure, many companies can create more equity capacity to fund investments, says Harvard Business School professor Robert C. Merton. Just don't leave it up to the Finance Department. Closed for comment; 0 Comments.
- 06 Feb 2006
- Research & Ideas
The Trouble Behind Livedoor
When Livedoor CEO Takafumi Horie was arrested last month, it shook the economic underpinnings of Japan. Professor Robin Greenwood discusses what went wrong with one of that country's most-watched Internet companies. Closed for comment; 0 Comments.
- 16 Jan 2006
- Research & Ideas
Adam Smith, Behavioral Economist?
Adam Smith is best known for The Wealth of Nations, but professor Nava Ashraf believes another of his works, The Theory of Moral Sentiments, presaged contemporary behavioral economics. Closed for comment; 0 Comments.
- 09 Jan 2006
- Research & Ideas
Rebuilding Commercial Real Estate
The commercial real estate business is awash with money and opportunity. Is this the calm before the bubble pops? Closed for comment; 0 Comments.
- 05 Dec 2005
- Research & Ideas
VCs Survey Post-Bubble Opportunities
At the annual Cyberposium conference held at Harvard Business School, venture capitalists pondered what makes for winners and losers in the new VC landscape. Closed for comment; 0 Comments.
- 06 Sep 2005
- Research & Ideas
The Best Place for Retirement Funds
Turns out location, location, location isn’t just about real estate. Professor Daniel Bergstresser discusses his research on optimal asset location strategies. Closed for comment; 0 Comments.
- 18 Jul 2005
- Research & Ideas
Time to Rethink the Corporate Tax System?
Corporations have turned tax obligations into profit centers, bringing into question the whole rationale for business taxes in the first place. Professor Mihir A. Desai discusses problems with the modern corporate tax structure and suggests possible remedies. Closed for comment; 0 Comments.
- 02 May 2005
- Research & Ideas
Four VCs on Evaluating Opportunities
Four venture capitalists explain to Harvard Business School professor Mike Roberts and senior research associate Lauren Barley how they evaluate potential investments. Closed for comment; 0 Comments.
- 21 Feb 2005
- Research & Ideas
The VC Quandary: Too Much Money
The VC money "overhang" continues as investors compete to get into a small number of deals each year. How do smart venture firms approach the challenge? A report from the 11th Annual Venture Capital & Private Equity Conference. Closed for comment; 0 Comments.
- 10 Jan 2005
- What Do You Think?
Public Pension Reform: Does Mexico Have the Answer?
Mexico may have found a formula for avoiding most of the misfortunes that could arise when individuals invest their own funds. What's the right way to support an aging workforce? And why is it that a concept—life-long security—that should bring comfort to all of us is so distasteful to address in public? Closed for comment; 0 Comments.
- 10 Jan 2005
- Research & Ideas
Professors Introduce Valuation Software
HBS professors Krishna Palepu and Paul Healy have developed a business analysis and valuation software program, which is being sold to the public. Here is why investors and executives should take a look. Closed for comment; 0 Comments.
How Does Foreign Direct Investment Promote Economic Growth? Exploring the Effects of Financial Markets on Linkages
Does FDI help developing countries as much as we think? While theoretical models imply that FDI is beneficial for a host country's development—a belief widely shared among policymakers—the empirical evidence does not support this view. This paper bridges the gap between theoretical and empirical literature with a model and calibration exercises that examine the role of local financial markets. Ultimately, Alfaro and colleagues contribute to existing research that emphasizes how local policies and institutions may actually limit the potential benefits that FDI could provide to a host country. Key concepts include: Research shows that an increase in FDI leads to higher growth rates in financially developed countries compared to rates observed in financially poor countries. Local conditions, such as the development of financial markets and the educational level of a country, affect the impact of FDI on economic growth. Policymakers should exercise caution when trying to attract FDI that is complementary to local production. The best connections are between final and intermediate industry sectors, not necessarily between domestic and foreign final goods producers. Human capital plays a critical role in achieving growth benefits from FDI. Closed for comment; 0 Comments.