John Sedunov

What is the Systemic Risk Exposure of Financial Institutions

I compare the performance of three measures of institution-level systemic risk exposure — Exposure CoVaR (Adrian and Brunnermeier, 2016), systemic expected shortfall (Acharya et al., 2016), and Granger causality (Billio et al., 2012). I modify Exposure CoVaR to allow for forecasting, and estimate the ability of each measure to forecast the performance of financial institutions during systemic crisis periods in 1998 (LTCM) and 2008 (Lehman Brothers). I find that Exposure CoVaR forecasts the within-crisis performance of financial institutions, and provides useful forecasts of future systemic risk exposures. Systemic expected shortfall and Granger causality do not forecast the performance of financial institutions reliably during crises. I also find, using cross-sectional regressions, that foreign equity exposure and securitization income determine systemic risk exposure during the 1998 and 2008 crises, respectively; financial institution size determines systemic risk exposure during both crisis periods; and executive compensation does not determine systemic risk exposure.

Bank Liquidity Creation and Real Economic Output

We find that bank liquidity creation (LC) is statistically and economically significantly positively related to real economic output (GDP). This is robust to using instrumental variables and many robustness checks. LC also beats bank assets in “horse races.” On-balance sheet LC matters more for small banks and off-balance sheet LC matters more for large banks. Small bank LC generates more GDP per dollar than large bank LC, but large bank LC matters more overall because large banks provide much more LC than small banks. The LC-output relation is strongest in bank-dependent industries, consistent with the hypothesized transmission mechanism.

A comprehensive approach to measuring the relation between systemic risk exposure and sovereign debt

Using an integrated model to control for simultaneity, as well as new risk measurement techniques such as Adapted Exposure CoVaR and Marginal Expected Shortfall (MES), we show that the aggregate systemic risk exposure of financial institutions is positively related to sovereign debt yields in European countries in an episodic manner, varying positively with the intensity of the financial crisis facing a particular nation. We find evidence of a simultaneous relation between systemic risk exposure and sovereign debt yields. This suggests that models of sovereign debt yields should also include the systemic risk of a countrys financial system in order to avoid potentially important mis-specification errors. We find evidence that systemic risk of a countrys financial institutions and the risk of sovereign governments are inter-related and shocks to these domestic linkages are stronger and longer lasting than international risk spillovers. Thus, the channel in which domestic sovereign debt yields can be affected by another nations sovereign debt is mostly an indirect one in that shocks to a foreign countrys government finances are transmitted to that countrys financial system which, in turn, can spill over to the domestic financial system and, ultimately, have a destabilizing effect on the domestic sovereign debt market.

Governance Mechanisms and Effective Activism: Evidence from Shareholder Proposals on Poison Pills

This paper studies the interaction between governance mechanisms and the effectiveness of shareholder activism by examining shareholder-initiated proposals on poison pills. After contrasting companies along their governance regime, we observe that dictatorship firms, characterized with higher number of governance provisions, are associated with more activist voting by institutional groups: ownership by mutual funds, independent investment advisors and pension funds are significantly related to greater support of shareholder proposals against poison pills. In democratic firms, characterized with lower levels of restrictions on shareholder rights ownership by various shareholder groups is not as highly correlated with support for these proposals, suggesting perhaps that shareholders use other internal channels to voice concerns. In dictatorships, we find that certain shareholders rely on annual meetings to pressure management, and that management is less likely to take action following shareholder votes. Finally, among all institutional shareholders, management seems more likely to respond favorably in the presence of ownership by public pension funds.

The Granular Nature of Large Institutional Investors

Over the last four decades, the concentration of institutional assets in equity markets has increased dramatically. We conjecture that large institutions are granular, that is, they cannot be reduced to a collection of smaller independent entities. Hence, the paper studies whether large institutional ownership has a significant impact on asset prices. We provide evidence of a causal effect of ownership by large institutions on the volatility of their stock holdings. As a potential channel for this effect, we show that large institutions generate higher price impact than smaller institutions. Their trades are larger and concentrated on fewer stocks than those of smaller firms. Moreover, the investor flows to units within the same family are more correlated than the flows to independent entities. Finally, the effect of large institutions on volatility is unlikely to be related to improved price discovery, because the stocks owned by large institutions exhibit stronger price inefficiency.

Cross-Border Bank Flows and Systemic Risk

Using Bank for International Settlements (BIS) data on cross-border bank flows across 128 countries and over two decades, we find that heightened bank flows are associated with improved financial stability in a recipient country’s bank system. The reductions in marginal expected shortfall (MES) are concentrated among network-central banks and especially those in less concentrated banking sectors. Higher bank flows are also associated with improvements in bank asset quality, efficiency, and profitability in recipient markets. We interpret these new findings as consistent with predictions from recent models of bank globalization that emphasize a competition channel for bank risk-taking.

ETF Short Interest and Failures-to-Deliver: Naked Short-Selling or Operational Shorting?

We identify an alternative source of ETF shorting related to the market maker liquidity provision and creation/redemption activities. This “operational shorting” arises due to a regulatory exemption, allowing ETF market makers to satisfy excess demand in secondary markets by selling ETF shares that have not yet been created. We find that operational shorting is associated with improved liquidity and greater price efficiency in the underlying securities held by an ETF, and with short-term return reversals consistent with liquidity supplying motives rather than informed trading. Delayed ETF creation to cover operational shorts results in failures to deliver and is found to be a valuable option in the presence of a liquidity mismatch between the ETF and the underlying securities. Operational shorting can lead, however, to increased counterparty risk and trading linkages between liquidity providers. We document a commonality in operational shorting across ETFs that share the same lead market maker and find that financial leverage can amplify this commonality.

Operating Risk and the Scope of Lender Control Rights

When lenders gain control rights in technical default, they influence corporate operating decisions. We develop a novel measure of operational risk-taking that utilizes industry-specific data on corporate operations. Using a regression discontinuity design, we find that borrowers reduce operational risk-taking following covenant violations, corresponding to a marginal decrease in the probability of experiencing distress within one year by as much as 10%. The magnitude of this effect is concentrated in borrowers with ex ante information asymmetry or agency problems and lending syndicates with low coordination costs, low expected loss given default, and high propensity for active intervention.

DOES BANK TECHNOLOGY AFFECT SMALL BUSINESS LENDING DECISIONS

I examine the effect that technology has on soft-information lending, and addresses issues within the banking literature on quantifying bank technology. I find that banks engage in less soft-information lending when back-office bank technology is more productive, and that banks engage in less soft-information lending when they own interactive web technology. I find that competition, lending decisions, and bank size are the primary drivers of technological development. I show that these results are robust to econometric tests which account for endogeneity; to an alternative definition of the banks size; and to the inclusion of lending portfolio controls.