Kevin Crotty

The Informational Role of Stock and Bond Volume

In a Kyle (1985) model, the sign of the correlation between a firms debt and equity returns is the same as the sign of the cross-market Kyles lambda. The sign is positive (negative) if private information concerns the mean (risk) of the firms assets. We show empirically that information conveyed by order flows is primarily about asset means. The cross-market lambdas are quite large; consequently, the portions of bond and stock returns explained by order flows are highly correlated, even though the order flows themselves are virtually uncorrelated.

Corporate Yield Spreads and Systematic Liquidity

I investigate commonality in liquidity and its implications for corporate bond pricing. I demonstrate the extent of liquidity commonality within and across the corporate bond and equity markets using latent liquidity factors. Shocks to systematic liquidity factors help explain time-series variation in yield spreads. Bonds with greater exposure to across-market liquidity shocks have higher spreads cross-sectionally. The results are robust to credit risk and liquidity level controls. High liquidity-beta bonds exhibit a larger CDS-bond basis, the difference between an issuer’s credit default swap premium and the bond-implied premium, suggesting that bond markets exhibit greater exposure to liquidity risk than CDS markets.

The Causal Effects of Short-Selling Bans: Evidence from Eligibility Thresholds

We identify the causal effects of short-selling bans on stock prices using regression discontinuity (RD). We exploit three threshold-based rules that determine a stocks short-selling eligibility on the Hong Kong Stock Exchange. Short-selling bans affect short-selling volume at all thresholds. Despite this, bans do not affect price levels. Stock returns, volatility, and crash risk are not different for banned vs. unrestricted stocks when appropriate counterfactual stocks are used to measure a bans effects. Our findings suggest that short-selling bans are not as costly as previously argued, but are ineffective at reducing volatility or buttressing prices.

Skewness Consequences of Seeking Alpha

Mutual funds seek alpha, but residual coskewness is also an important performance attribute. Alpha and residual coskewness relative to the market are negatively correlated in theory, so funds may generate undesirable residual coskewness in the pursuit of alpha. Empirically, the trade-off exists for mutual funds and is driven by both fund composition and actions of managers. Sorting funds by proxies for active management generates positive alpha, but also undesirable coskewness. Investment styles also carry skewness consequences, but only partially explain the trade-off in funds. A minority of funds overcome the trade-off. Thus, seeking alpha generally comes at a skewness cost.

How Skilled are Security Analysts

The majority of security analysts are identified as skilled when the cross‐section of analyst performance is modeled as a mixture of multiple skill distributions. Analysts exhibit heterogeneous skill—some are high‐type, and some are low‐type. On average, the recommendation revisions of both types exhibit positive abnormal returns. The heterogeneity stems from differential ability to produce new information; all analysts can profitably process news. Top analysts outperform because more of their recommendations are influential (i.e., associated with statistically significant returns) and both their influential and noninfluential recommendations are more informative. A majority of research firms are also identified as skilled.