Hernan Ortiz-Molina

Labor Unions, Operating Flexibility, and the Cost of Equity

We study whether the constraints on firms’ operations imposed by labor unions affect firms’ costs of equity. The cost of equity is significantly higher for firms in more unionized industries. This effect holds after controlling for several industry and firm characteristics, is robust to endogeneity concerns, and is not driven by omitted variables. Moreover, the unionization premium is stronger when unions face a more favorable bargaining environment and is highly countercyclical. Unionization is also positively related to various measures of operating leverage. Our findings suggest that labor unions increase firms’ costs of equity by decreasing firms’ operating flexibility.

Do Voting Rights Affect Institutional Investment Decisions? Evidence from Dual-Class Firms

We examine whether, and to what extent, shareholder voting rights affect institutional investment decisions. Our analysis compares institutional investment in dual-class firms, where multiple share classes carrying differential voting rights allow insiders to control the firm and leave outside investors with little or no control rights, to that in single-class firms, where each share carries one vote. We find that institutional ownership in dualclass firms is significantly lower than that in single-class firms after controlling for other determinants of institutional investment. Although institutions of all types hold less of the shares of dual-class firms, this avoidance is more pronounced for long-term investors with strong fiduciary responsibilities than for short-term investors with weak fiduciary duties. Following the unification of dual-class shares into a single-class, institutional investors increase their shareholdings in the unifying firm. Overall, our results suggest that voting rights are an important determinant of institutional investment decisions.

Real Asset Illiquidity and the Cost of Capital

We show that firms with more illiquid real assets have a higher cost of capital. This effect is stronger when real illiquidity arises from lower within-industry acquisition activity. Real asset illiquidity increases the cost of capital more for firms that face more competition, have less access to external capital or are closer to default, and for those facing negative demand shocks. The effect of real asset illiquidity is distinct from that of firms’ stock illiquidity or systematic liquidity risk. These results suggest that real asset illiquidity reduces firms’ operating flexibility and through this channel its cost of capital.

A Natural Robustification of the Ordinary Instrumental Variables Estimator

Instrumental variables estimators are designed to provide consistent parameter estimates for linear regression models when some covariates are correlated with the error term. We propose a new robust instrumental variables estimator (RIV) which is a natural robustification of the ordinary instrumental variables estimator (OIV). Specifically, we construct RIV using a robust multivariate location and scatter S-estimator to robustify the solution of the estimating equations that define OIV. RIV is computationally inexpensive and readily available for applications through the R-library riv. It has attractive robustness and asymptotic properties, including high resilience to outliers, bounded influence function, consistency under weak distributional assumptions, asymptotic normality under mild regularity conditions, and equivariance. We further endow RIV with an iterative algorithm which allows for the estimation of models with endogenous continuous covariates and exogenous dummy covariates. We study the performance of RIV when the data contains outliers using an extensive Monte Carlo simulation study and by applying it to a limited-access dataset from the Framingham Heart Study-Cohort to estimate the effect of long-term systolic blood pressure on left atrial size.

Average Stock Variance and Market Returns: Evidence of Time-Varying Predictability at the Daily Frequency

Chen, Ortiz-Molina, and Zhang develop a daily measure of average stock variance and study whether it can predict market returns one day ahead. Using a time-invariant prediction model, they find a robust predictive relation between these variables that cannot be used to profitably time the market. A closer look reveals that the strength and even the direction of the predictive relation vary significantly over short periods of time. Moreover, a simple timing strategy that exploits this variation over time significantly outperforms the market buy-and-hold strategy in terms of the mean-variance trade-off. The evidence shows that predictability is stronger during business cycle contractions and that the timing strategy is profitable because it avoids losses during bad times. The evidence also shows that parameter breaks occur very frequently over short periods of time, and not only when the economy switches from one phase of the business cycle to another. The authors’ results suggest that idiosyncratic risk matters in asset pricing and that its effect is time varying.