Craig M. Lewis

Stock market volatility and the information content of stock index options

Previous studies of the information content of the implied volatilities from the prices of call options have used a cross-sectional regression approach. This paper compares the information content of the implied volatilities from call options on the S&P 100 index to GARCH (Generalized Autoregressive Conditional Heteroscedasticity) and Exponential GARCH models of conditional volatility. By adding the implied volatility to GARCH and EGARCH models as an exogenous variable, the within-sample incremental information content of implied volatilities can be examined using a likelihood ratio test of several nested models for conditional volatility. The out-of-sample predictive content of these models is also examined by regressing ex post volatility on the implied volatilities and the forecasts from GARCH and EGARCH models.

Following the leader: ☆: a study of individual analysts’ earnings forecasts

Abstract This paper develops and tests procedures for ranking the performance of security analysts based on the timeliness of their earnings forecasts, the abnormal trading volume associated with these forecasts, and forecast accuracy. Our framework provides an objective assessment of analyst quality that differs from the standard approach, which uses survey evidence to rate analysts. We find that lead analysts identified by our measure of forecast timeliness have a greater impact on stock prices than follower analysts. Further, we find that performance rankings based on forecast timeliness are more informative than rankings based on abnormal trading volume and forecast accuracy. We also present evidence that analysts forecast revisions are correlated with recent stock price performance, suggesting that security analysts use publicly available information to revise their earnings forecasts.

Shareholder-Initiated Class Action Lawsuits: Shareholder Wealth Effects and Industry Spillovers

This paper documents significantly negative stock price reactions to shareholder-initiated class action lawsuits. We find that shareholders partially anticipate these lawsuits based on lawsuit filings against other firms in the same industry and capitalize part of these losses prior to a lawsuit filing date. We show that the more likely a firm is to be sued, the larger the partial anticipation effect (shareholder losses capitalized prior to a lawsuit filing date) and the smaller the filing date effect (shareholder losses measured on the lawsuit filing date). Our evidence suggests that previous research that typically focuses on the filing date effect understates the magnitude of shareholder losses, and that such an understatement is greater for firms with a higher likelihood of being sued.

The behavior of the volatility implicit in the prices of stock index options

Abstract We examine stock-market volatility around the quarterly expirations of stock index futures contracts and nonquarterly expirations of stock index options, using estimates of the volatility implicit in the option prices. The option prices reflect increases in the volatility of the underlying stock indexes around both quarterly and nonquarterly expiration dates. Analysis of the residual returns on index options provides evidence consistent with an unexpected increase in market volatility around expiration dates.

Is Convertible Debt a Substitute for Straight Debt or for Common Equity

Firms have two motivations for issuing convertible debt. Some issue convertible debt instead of straight debt to mitigate the costs of bondholder/stockholder agency conflicts. Others issue convertible debt instead of common debt to reduce the costs of adverse selection.

Are Debt and Leases Substitutes

Lease valuation models often begin with the assumption that leases and debt are substi? tutes. This paper demonstrates that, because leasing is a mechanism for selling excess tax deductions, it can motivate the lessee firm to increase the proportion of debt in its capital structure relative to an otherwise identical firm that does not use leasing. Thus, debt and leases can be complements. We also show that a competitive lessor will use diversification to reduce risk and increase the probability that tax deductions are fully utilized so that it can lower lease payments.

Forecasting Futures Market Volatility

This article compares the accuracy o f dgerent methods o f forecasting the volatility of crude oil futures prices. Using daily datafrom November 1986 through March 1991, we examine volatilities j o m models of the generalized autoregressive conditional heteroscedasticity ( G A R C H ) family and contrast them with the implied volatilities j o m call options on crude oil futures. In-sample tests are conducted by embedding the implied volatility in GARCH and EGARCH models as an additional explanatory variable. The results show that both sources o f volatility infrmation contribute statistically signgcant mplanatory power. We j n d no particular reason to prefer the more complex EGARCH model, because there appears to be no asymmetry in the volatility response to firtures price changes. I n out-of-sample tests of forecasts of futures volatility over the remaining lives of both nearby and more distant option contracts, the GARCH and E G A R C H models violate the requirements f o r forecast rationality, but implied volatilities do not. A naive historical volatility estimate is also examined, but its perfarmance is not as good as implied volatility. “Encompassing regression” tests show that out-of-sample forecasts from the GARCH-type models contained no information that was not impounded in implied volatilities. Bias-adjusted and combined forecasts based on the encompassing regression results do not perform as well out-of-sample as the unadjusted implied volatility.

A multiperiod theory of corporate financial policy under taxation

This paper examines multiperiod corporate financial policy in a world where the only market imperfection is taxation. The optimal financial policy determines the firms capital structure and debt maturity structure. Two implications of this policy are: (1) there can be a set of debt-asset ratios that is consistent with firm value maximization, and (2) debt maturity structure is irrelevant to firm value.

The long-run performance of firms that issue convertible debt: an empirical analysis of operating characteristics and analyst forecasts

Many firms issue hybrid securities, such as convertible debt, instead of standard securities like straight debt or common equity. Theoretical arguments suggest that convertible debt minimizes costs for firms facing high debt- and equity-related external financing costs. Theory also suggests that an appropriately designed convertible security provides efficient investment incentives. We show, however, that firms on average perform poorly following the issuance of convertible debt. The empirical evidence suggests that the efficient investment decisions predicted by theory are not in fact achieved by the actual design and issuance of convertible debt securities. An alternative interpretation of convertible debt offers is that investors ration the participation of some issuers in the seasoned equity market. q 2001 Elsevier Science B.V. All rights reserved.

Income smoothing and underperformance in initial public offerings

Abstract This paper investigates how firms that made initial public offerings of equity between 1975 and 1984 report earnings. For a sample of 489 firms, we find a positive association between a proxy for income smoothing and firm performance. That is, firms that perform well tend to report earnings with less variability relative to cash from operations compared to other firms. In addition, the five-year earnings response coefficient is greater for firms that are able to smooth earnings relative to cash flows. This result is consistent with a hypothesis that the market makes better assessments of the information content of earnings for firms with smoother earnings. Finally, we show that IPO firms tend to use discretionary accruals to smooth income relative to the prior years earnings.