Paul Brockman

A barrier option framework for corporate security valuation

Abstract This paper proposes a framework for corporate security valuation based on path-dependent, barrier option models instead of the commonly used path-independent approach. We argue that path dependency is an intrinsic and fundamental characteristic of corporate securities because equity can be knocked out whenever a legally binding barrier is breached. A direct implication of this framework is that equity will be priced as a down-and-out call option. We provide empirical validation of the barrier model by showing that implied barriers are statistically and economically significant for a large cross-section of industrial firms. Additional robustness tests confirm that barriers remain significant over a wide range of input variable estimates. And finally, we apply the barrier option framework to bankruptcy prediction and find that implied failure probabilities dominate Z-scores in most cases.

Investor Protection and Firm Liquidity

The purpose of this study is to investigate the relation between investor protection and firm liquidity. We posit that less protective environments lead to wider bid-ask spreads and thinner depths because they fail to minimize information asymmetries. The Hong Kong equity market provides a unique opportunity to compare liquidity costs across distinct investor protection environments, but still within a common trading mechanism and currency. Our empirical findings verify that firm liquidity is significantly affected by investor protection. Regression and matched-sample results show that Hong Kong-based equities exhibit narrower spreads and thicker depths than their China-based counterparts.

Managerial Timing and Corporate Liquidity: Evidence from Actual Share Repurchases

The purpose of this paper is to investigate the timing of open market share repurchases and its resultant impact on corporate liquidity. We identify the exact implementation dates for over 5,000 equity buybacks on the Stock Exchange of Hong Kong between November 1991 and August 1999. A bootstrapping method is used to distinguish managerial timing ability from a naive accumulation plan. The results show that managers exhibit substantial timing ability. Consistent with the information-asymmetry hypothesis (Barclay and Smith (1988 Journal of Financial Economics 22, 61-82)), we find strong evidence that bid-ask spreads widen and depths narrow during repurchase periods. We further decompose bid-ask spreads and show that the adverse selection component increases substantially when market participants respond to the presence of informed managerial trading. Overall, our market timing, spread and depth, and decomposition results reveal a coherent picture of managerial buyback behavior and its impact on firm liquidity. Our results have significant implications for corporate payout and disclosure policies.

Commonality in liquidity: a global perspective

We conduct a comprehensive study of commonality in liquidity using intraday spread and depth data from 47 stock exchanges. We find that firm-level changes in liquidity are significantly influenced by exchange-level changes across most of the worlds stock exchanges. Emerging Asian exchanges have exceptionally strong commonality, while those of Latin America exhibit little if any commonality. After documenting the pervasive role of commonality within individual exchanges, we examine commonality across exchanges. We find evidence of a distinct, global component in bid-ask spreads and depths. Local (exchange-level) sources of commonality represent roughly 39% of the firms total commonality in liquidity, while global sources contribute an additional 19%. We also investigate potential sources of exchange-level and global commonality. We show that commonality is driven by both domestic and U.S. macroeconomic announcements.

An analysis of depth behavior in an electronic, order-driven environment

The use of electronic limit order books has been increasing rapidly in recent years. Many of the newly emerging as well as well-established exchanges have adopted electronic, order-driven systems or are in the process of initiating or broadening their order-driven trading. This study investigates inter-temporal and cross-sectional depth patterns on one of the world?s largest electronic, order-driven markets, the Stock Exchange of Hong Kong (SEHK). Results show an inverted U-shaped pattern that mirrors the commonly-reported U-shaped spread pattern. Further cross-sectional analysis demonstrates that depth is negatively related to information asymmetry. An important implication is that the adverse selection impact on corporate liquidity and cost of capital is stronger than previously believed since information costs are realized through the combined, magnifying effect of both spreads and depths.

The relationship between US and Canadian wheat futures

The purpose of this paper is to investigate the relationship between US and Canadian wheat futures prices in order to analyse the degree of information spillover between the futures exchanges of both countries. Although considerable research has focused on the relationship between US and Canadian equity markets, little work has been conducted on their respective future markets. The increase in market-oriented trade agreements and the decrease of governmental presence in the agricultural sector adds to the importance and timeliness of such a study. The results show that both the US and Canadian wheat futures prices are an integrated series of order one, and that the two series are cointegrated. Although the evidence shows an equilibrium relationship in the long run, short-run dynamics exhibit no such dependencies. These results are relevant for various market participants, including farmers, grain merchants, speculators, exchanges, and regulatory agencies.

Stock Market Liquidity and the Decision to Repurchase

We examine the impact of stock market liquidity on managerial payout decisions. We argue that stock market liquidity influences payout policy through a first-order effect on the share repurchase decision, and a second-order or residual effect on the dividend decision. Managers compare the tax and flexibility advantages of a repurchase against its liquidity cost disadvantage. All else equal, higher market liquidity encourages the use of repurchases over dividends. Our empirical results confirm that stock market liquidity plays a significant role in repurchase and dividend initiations, as well as in recurring payout decisions. Unlike previous studies that measure liquidity changes following the repurchase decision, we examine liquidity levels prior to the payout decision. We show that managers condition their repurchase decision on a sufficient level of market liquidity, consistent with Barclay and Smiths (1988) theoretical analysis and Brav et al.s (2005) CFO survey results. Repurchases have recently become the payout decision of choice in part because of rising stock market liquidity.

The persistent holiday effect: additional evidence

The holiday effect is one of the most perplexing of all seasonal anomalies. Based on evidence using pre-1987 equity returns, this anomaly has been shown to be responsible for somewhere between 30 to 50% of the total return on the market while exhibiting below average variances (Lakonishok and Smidt, 1988; Ariel, 1990). The purpose of this paper is to investigate and document the persistence of the holiday effect (or lack thereof) beyond the 1987 period for equities traded on the NYSE, AMEX, and NASDAQ exchanges. Has the holiday effect continued into the 1990s, or have efficient trading rules exploited the anomaly to the point where it no longer exists? The results provide additional evidence into the nature and potential causes of seasonal market anomalies.

Inter- and intra-day liquidity patterns on the Stock Exchange of Hong Kong

Abstract The purpose of this study is to investigate inter- and intra-day liquidity patterns in the Hong Kong equity market. The market making system of the Stock Exchange of Hong Kong (SEHK) is highly transparent and operates with minimal third party intervention. Liquidity is supplied solely by the submission of public limit orders through a fully-automated, order-driven trading system. The results reveal bid-ask spread patterns on the SEHK more similar to those of specialist systems than to those of multi-dealer systems, thereby providing useful evidence in distinguishing among competing market microstructure theories.

Information shares in Canadian agricultural cash and futures markets

This paper examines the information shares in four pairs of Canadian agricultural cash and futures markets by exploring their cointegrating relationships. Using error correction models (ECMs) and Hasbroucks econometric method of estimating information shares, the results show that the price discovery process is most pronounced in the futures market. The identification and quantification of the dominant market of price discovery is of great interest to both hedgers and speculators. The advantage of Hasbroucks technique is that it facilitates the quantification of the concept of price discovery and market dominance.