Jim Musumeci

Controlling the Incentive Problems in Real Estate Leasing

This paper develops a formal model that characterizes potential conflicts of interest between real-estate landlords and tenants. The model demonstrates a tenants incentive to undermaintain or overuse (i.e., abuse) a leased property while highlighting the moral hazard problem as a cause of the failure of the lease irrelevance proposition. As a consequence, the lease irrelevance propositions faiure implies that if tenant abuse incentives are left unrestricted, the market for leased real estate may cease to function.The efficacies of various lease arrangements suggested by Smith and Wakeman (1985) and other researchers in controlling the tenant abuse incentives are evaluated in this framework as a means of counteracting the inherent problems. Our analysis supports the greater use of variable lease schemes (e.g., security deposits and penalty clauses), which peg real-estate lease rates to the level of property abuse rather than more traditional fixed payment contracting arrangements.

Human Capital and International Diversification

International portfolio diversification is looked at from an unusual perspective: the interaction between human capital and international diversification. The author notes that, despite well-grounded arguments in favor of international diversification, Americans hold an almost insignificant proportion of foreign stocks in their portfolios. The author examines the effects of human capital to see whether adding that dimension helps explain that apparent puzzle. He shows that extremely risk-averse investors may choose to own domestic equity only when human capital is considered, although extremely risk-averse investors may not choose to diversify internationally, even if human capital is ignored. Furthermore, the data support the contention that more representative investors should diversify internationally, but that this result does not seem to depend much on human capital. The author argues that the experiment reconciles several different previous findings, but concludes that, in general, his results seem to indicate that the degree of international diversification in an individuals portfolio depends largely on the investors attitude toward risk.

A Dynamic-Programming Approach to Multiperiod Asset Allocation

Academicians and practitioners recently have focused a great deal of attention on the issue of retirement asset allocation. However, research on the academic side typically has assumed a static allocation of a fixed amount over the investors lifetime, while the advice on the practitioner side has been largely ad hoc in nature. Moreover, both academics and practitioners often fail to link allocations to the individuals attitude toward risk. This paper uses several performance measures that incorporate the individuals aversion to risk and finds the allocations in the year before retirement that maximize the expected value of those performance measures. It then uses a dynamic programming procedure to “roll back” one year at a time to determine optimal allocations for previous years as well. We find that the traditional advice that young investors should invest more heavily in equity (with a gradual shift to more debt as they near retirement) indeed is correct, and in fact the optimal equity allocation is even higher than commonly suggested. Deviations of the growth in an individuals income from a long-term national average did not seem to significantly affect the optimal allocations. The optimal allocations, however, vary widely as a function of (1) investor attitudes toward risk and (2) accumulated savings to date. These results suggest greater care should be taken to assess and incorporate these factors into the asset-allocation decision.

How Legislation Affects Value: The Failure of Credit Card Cap Legislation

Marcia Millon Cornett is a Professor of Finance and Jim Musumeci is an Associate Professor of Finance at Southern Illinois UniversityCarbondale. We examine the credit card cap bill of November 1991. This legislation took only six business days to be formulated, pass in the Senate, and then die unenacted. We find that banks with high credit card exposure experienced significant negative abnormal returns during the period in which the bill looked certain to be enacted. When it became evident that the bill would fail, the banks did not recoup the full value lost.

Were U.S. Banks Exposed to the Greek Debt Crisis? Evidence from Greek CDS Spreads

This study provides an empirical analysis of the impact of the Greek debt crisis on stock returns of U.S. commercial banks. We find that good (bad) news events pertaining to the Greek debt crisis, identified by large changes in the Greek CDS spread, produce insignificant positive (negative) abnormal stock returns. While banks were exposed to Greek debt, their exposure was such that it did not result in any abnormal fluctuations in bank values at the height of the crisis. When we measure the sensitivity of bank returns to changes in the Greek CDS spread in an effort to measure banks’ exposure to the crisis, we find that changes in the Greek CDS spread provide no additional explanatory power for bank returns beyond what a U.S. market index does. Finally, we find no bank characteristic that allows us to consistently predict the effect of the Greek crisis on specific banks.

Teaching Students Not to Dismiss the Outermost Observations in Regressions

One econometric rule of thumb is that greater dispersion in observations of the independent variable improves estimates of regression coefficients and therefore produces better results, i.e., lower standard errors of the estimates. Nevertheless, students often seem to mistrust precisely the observations that contribute the most to this greater dispersion. This paper offers an assignment to help students discover for themselves the value of the observations that are farthest from the mean.

Controlling Leasing Conflicts between Retail Owner/Managers and Tenants

Retail owner/managers are aware that tenants have an incentive to maximize their own wealth by undermaintenance or overuse of leased property so as to increase their short-term income at the expense of the property’s long-term value. This chapter analyzes many of the currently available methods for controlling unwanted retail tenant behavior. First, a rigorous understanding of retail leasing that examines the effects of tenant undermaintenance and overuse is developed. Then this framework is used to evaluate the efficiency of various lease arrangements and provisions used to restrict unwanted tenant behavior. Using numerical examples, this chapter demonstrates that variable lease payments that peg lease rates to the level of asset abuse (such as security deposits and penalty clauses) work better at controlling unwanted tenant actions than fixed-lease payments (such as maintenance contracts and higher lease payments).