Gikas A. Hardouvelis

Commodity Prices, Money Surprises and Fed Credibility

STRICT MONETARIST THEORY, IN AN EXTREME FORM, holds that excessive money growth, or the expectation of future money growth, shows up immediately in the rapid inflation of goods prices. However, it is widely argued that for most goods prices are in fact sticky in the short run and reflect money growth only in the long run. If one seeks a sensitive market measure of the perceived looseIless or tightness of monetary policy, one must. look elsewhere than at the general price level. Interest rates, being determined in quickly adjusting financial markets, are free to respond immediately to expectations regarding monetary policy. In 1981 and 1982, every Friday at 4:10 P.M. Eastern Standard Time the Federal Reserve Board would announce the money stock for the week ending nine days previously. If the announced money stock was different from what the market had been expecting, interest rates generally jumped in the same direction. Clearly they were responding to revisions of the expected future path of the money stock. But nominal interest rates are an ambiguous indicator of expectations. On the one hand, an announced increase in the money stock may be received by the market as indicating a higher

Margin Requirements, Price Fluctuations, and Market Participation in Metal Futures

Margin requirements in metal futures contracts have a negative impact on market participation that seems causal because it is absent from a benchmark group of metals that do not undergo similar margin changes. It is less clear whether margins restrict primarily rational or irrational investors. The stronger positive relation between margins and future target metal volatility than benchmark metal volatility can simply be attributed to the selection rule of the exchanges, as they increase margins in those metals for which they anticipate a comparatively higher future volatility. Copyright 1995 by Ohio State University Press.

The Impact of Globalization on the Equity Cost of Capital

The advent of the single currency within the European Union provides a natural experiment to measure how the cost of equity changes as globalization takes place. This is because the launch of the single currency has led to the elimination of currency-related restrictions on the composition of institutional investors’ portfolios and, hence, to increased risk sharing among EU investors. We focus not only on the impact of globalization on the level of the cost of equity, but also on the cross-country and cross-sectoral dispersion in the cost of capital. Over the 1990s it is shown that the cost of equity within EU sectors falls by between 0.5 and 3 percentage points. There is strong evidence of convergence in the cost of equity across different countries in the same sector. Convergence across different sectors is small. An implication for portfolio management is that country effects are becoming smaller and sector effects larger.

The Yield Spread as a Symmetric Predictor of Output and Inflation

We present evidence that the predictive ability of the yield spread for short-run inflation is related to its predictive ability for economic activity. In particular, an increase in the slope of the term structure predicts an increase in output growth and a decrease in inflation of equal magnitude. In order to explain this finding, we develop a monetary asset-pricing model with sticky goods prices. Sticky prices imply that economic disturbances generate predictable changes in output and inflation, thus allowing for intertemporal substitution effects and changes in the slope of the yield curve. We derive analytic solutions of the covariance between the nominal yield spread and future output growth and inflation and show that a moderate degree of price stickiness and relatively high degree of intertemporal substitution can account for the observed correlations in the US data over the period 1960:Q1 - 2003:Q2.

External Financing, Growth and Stock Returns

In this paper we investigate the relation of the value/growth anomaly with the anomaly on corporate financing activities. We confirm and expand earlier results that value/growth and external financing indicators are, to some degree, related predictors of stock returns in the cross section. We show that external financing indicators are incrementally informative since they pick up stock returns associated with earnings quality. Portfolios that combine information from both these indicators generate significantly higher returns than portfolios containing each individual indicator. More importantly, our analysis strongly suggests that the external financing anomaly is, to some extent, distinct from the value/growth anomaly, in that it may also reflect investors’ misunderstanding of the effects of opportunistic earnings management.

Consumer Confidence and Elections

We investigate the behavior of consumer confidence around national elections in the EU-15 coun- tries during 1985:1-2007:3. Consumer con¯dence increases before the date of elections and falls subsequently by almost the same amount. It is able to predict the strength of the performance of the incumbent party and its probability of re-election both alone and in the presence of macro- economic and political variables. The post-election drop is negatively related to the previous run up and is a function of the political - but not the economic - environment. A similar rise and fall characterizes consumer confidence in the United States.

Style Concentration in Ownership and Expected Stock Returns

We examine the relation of expected stock returns with fund style concentration in stock ownership over the period 1997-2015. Concentration is measured by the Herfindahl index H of the shares of different investment styles in the ownership of stocks and represents a measure of investor inattention in stocks. Decile portfolios on H reveal a strong positive association of H with future returns, with the long-short portfolio on H having significant alphas after passing through the five-factor Fama-French (2015) model. The econometric results confirm the positive association and are robust to the inclusion of known risk-factors as determinants of expected stock returns, the returns of the investment styles themselves, plus a set of style-related control variables and other liquidity, size, or volatility characteristics of stocks. The relation coexists with short-run price and style momentum and long-run style and price reversals of Barberis and Shleifer (2003) and remains present over multi-year horizons of stock returns, being both economically and statistically significant. The results are consistent with the model of Merton (1987), which claims a stock’s excess risk premium over the CAPM premium, is the product of investor participation (which is proxied by H in our framework), idiosyncratic volatility and size. These results also shed light on the small firm effect.

Accruals and Value/Growth Anomalies: New Evidence on Their Relation

In this paper, we find that firms with low (high) accruals experience positive (negative) abnormal returns only when they are characterized by high (low) value/growth measures (book to market ratio and free cash flow yield). The level of accruals of those firms is found to be attributable to both growth and earnings management. Further, our evidence implies that the predictive power of accruals for future returns could be incremental to that of book to market ratio. At the same time, free cash flow yield subsumes the predictive power of both accruals and book to market ratio.

Testing Long-Run PPP in the Presence of Sticky Prices

In this paper we show that standard tests for long-run Purchasing Power Parity (PPP) are misspecified if aggregate prices are sticky. Using Monte Carlo simulations, we show that in small samples the ADF test has low power to reject the null of no cointegration when long-run PPP is tested using current prices instead of long-run equilibrium prices. We propose an alternative two-step testing procedure, which consists of, first, estimating long-run equilibrium prices from a standard money demand function and, then, testing long-run PPP as a relationship between the current exchange rate and long-run \QTR{em}{equilibrium} price differentials. Finally, we show that in small samples our proposed test has considerably higher power than the standard ADF test for a unit root in the real exchange rate. We apply our test to the effective exchange rate of the Greek drachma in the post-Bretton Woods period and find that it is closely linked to long-run equilibrium price differentials.