John E. Burnett

Implications of Multiple Structural Changes in Event Studies

The detection of unbiased abnormal returns in the classic event study depends on the validity of the assumption that the parameters of the return generating process remain constant throughout the sample period. However, given the substantial amount of evidence to support the fact that the market model parameters are not stable over time, previous research has suggested that the classic methodology may result in mismeasurement of the magnitude and timing of the market response and lead to incorrect conclusions regarding the impact of the event. This study addresses the issue of parameter nonstationarity in event studies by examining its implication for measuring the market response. Using an unconstrained estimation model that allows multiple structural changes in the security pricing model, our results indicate that the usual finding of statistically significant positive abnormal returns on and around the split announcement is robust to the more general specification of the underlying return generating process.

Political Campaigns as Rent-Seeking Games: Take the Money and Run

In the 1980s, the practice of converting campaign contributions into personal income on retirement was curtailed by the Federal Elections Commission (FEC), but an exemption allowed some representatives to continue this practice. Conse quently, a natural experiment was created in which congressional candidates faced different sets of rules. By identifying candidates who could keep excess campaign funds, the authors were able to empirically measure the relevance of wealth maximization in political campaign decisions. The evidence of the 1980s suggests that candidates are concerned with more than simply winning elections. Specifically, candidates who qualified for the FECs exemption raised more money and spent smaller portions of those contributions on their campaigns. This results in a sizable lump-sum transfer payment on retirement.

SOLVING LARGE GAMES WITH SIMULATED FICTITIOUS PLAY

A computational procedure, Simulated Fictitious Play (SFP), is introduced to approximate equilibrium solutions for n-person, non-cooperative games with large strategy spaces. A variant of the iterative solution process fictitious play (FP), SFP is first demonstrated on several small n-person games with known solutions. In each case, SFP solutions are compared to those obtained through analytical methods. Sensitivity analyses are presented that examine the effects of iterations (repetitions of the stage game) and number of sample outcomes generated within each iteration on measures of convergence. The algorithm is then used to approximate the solution of a 20-player game, in which each player has 601 pure strategies. The resulting strategy space, 60120, or 3.78 × 1055, has proved virtually unmanageable for existing solution methods and computer software packages that employ numerical methods. The paper discusses the origins and theoretical development of FP, as well as interest in FP as a model of learning. It concludes with a discussion of both the potential and limitations of SFP.

An Empirical Study of International Spillover of Sovereign Risk to Bank Credit Risk

The severity and complexity of the recent financial crisis has motivated the need for understanding the relationships between sovereign ratings and bank credit ratings. This is the first study to examine the impact of the “international” spillover of sovereign risk to bank credit risk through both a ratings channel and an asset holdings channel. In the first case, the downgrade of sovereign ratings in GIIPS (Greece, Italy, Ireland, Portugal, and Spain) countries leads to rating downgrades of banks in the peripheral countries. The second channel indicates that larger asset holdings of GIIPS debt increases the credit risk of cross-border banks, and hence, the probabilities of downgrade.

Liquidity and investor confidence in the turn-of-the-month regularity

ABSTRACT Ogden (1990) offers a compelling explanation for the ubiquitous turn-of-the-month (TOM) seasonality. He hypothesizes and shows that the clustering of payment dates at the end of the month results in a stock return regularity that is related to increased liquidity and monetary policy. This article introduces investor behaviour into Ogden’s TOM liquidity hypothesis where higher TOM returns depend not only on the availability of increased liquidity but also on investors’ willingness to invest new funds. The empirical evidence is consistent with the argument. When confidence is high, investors’ willingness to invest the increased liquidity results in a TOM regularity. But when confidence is low, a TOM regularity is absent as investors park the increased liquidity. This additional measure of investor confidence provides a more complete explanation of Ogden’s liquidity hypothesis.

Computing sets of expected utility maximizing distributions for common utility functions

The set of distribution functions that maximize expected utility for some utility function in a given class is the optimal set. This paper presents an algorithm for determining the optimal set of distributions for an important class of preferences and general finite sets of alternatives. The class of preferences considered, which includes the commonly used log, exponential and power functions, is the set of utility functions with complete monotone marginal utility (all derivatives alternate in sign). The algorithm is based on the necessary and sufficient conditions for infinite degree convex stochastic dominance, and is implemented using the solutions to a parametric family of linear programming problems. The algorithm is intended to be applied to sample data, and nonparametric statistical inference procedures are provided.

EFFECTIVE BID PRICING FOR UNIT PRICE CONTRACTS

ABSTRACT The task of submitting a competitive bid for the production of a specific product or performance of a particular job is a requirement of firms in many different types of industries, such as construction, manufacturing, and government contracting. In this paper we provide a general model from which to derive a deterministic bid price on a unit price contract. The solution is derived in a capital budgeting context, first for a single bid item contract and then extended to the case of a multiple bid item contract. The specification of a completely general model allows us to examine the sensitivity of the solution to the firms fixed and variable costs. The sensitivity of the bid price is shown to be independent of the level of cost, but highly dependent upon the delivery schedule of the contract. A form of the winners curse dilemma is also examined. We show how the conditional distribution of project net present value (NPV), given a winning bid, is adversely affected, and provide a means to incorpo...