Richard Lowery

The Pricing of IPO Services and Issues: Theory and Estimation

We estimate a model for the process for setting IPO spreads and offer prices. Weestablish that the partially rigid spread schedule observed for IPOs, where over 90% ofIPOs with proceeds between

Imperfect Monitoring and Fixed Spreads in the Market for IPOs

20 and

Agency Costs, Information, and the Structure of Corporate Debt Covenants

80 million have a spread of 7%, can be rationalized asoptimal collusion. Optimal collusion creates a rationale for high underpricing, and we usedata on both spreads and underpricing to estimate structural parameters. Our estimatessuggest that firms benefit from holding IPOs but that idiosyncratic manager preferencesmay drive much of the IPO market. Much of the money left on the table is estimated toaccrue to underwriters.

Collusion in Markets with Syndication

Characteristics of the investment banking industry, particularly the extreme concentration of spreads at exactly 7%, seem consistent with some form of collusion through which underwriters can extract surplus from the IPO. I present a model of investment banking that, under the assumption of optimal collusion, generates a distribution of spreads similar to that observed. The model is extended to show that underpricing and spread rigidity may arise together, each one reinforcing incentives to engage in the other.

A Note on Anonymous Expertise in Over-the-Counter Markets

We analyze the determinants of covenant structure in private debt contracts. While previous studies have demonstrated a relationship between firm characteristics and the overall strictness of loan contracts, few studies have examined why covenants are written on a range of accounting variables and what determines their selective use. Using a simple model of firm investment where firms face uncertain cash flows and investment opportunities, we characterize the conditions under which it is optimal for a debt contract to specify a restriction on investment or to specify a minimum cash flow realization. Consistent with this model, we find that the application of covenants based on these variables is not necessarily monotonic in firm risk. While the financially riskiest firms tend to employ capital expenditure covenants, cash flow and net worth covenants are most common among moderately risky firms with greater profitability and firms with stronger banking relationships. The results also highlight the importance of debt covenants in both mitigating agency frictions and maximizing the value of future private information.

Financial Industry Dynamics

Many markets are syndicated, including those for initial public offerings, club deal leveraged buyouts, and debt issuances; in such markets, each winning bidder invites competitors to join a syndic...

Bargaining with Asymmetric Costs for Information

I consider the model of expertise acquisition studied in Glode, Green, and Lowery (2012), under the alternative assumption that investment in expertise is unobservable. This model generates cross sectional variation in expertise levels and produces price dispersion.

Trading Complex Assets

To explain the sources of heterogeneity and fragility in the financial sector, we develop a dynamic model of entry, exit, and firm quality in the market for issuance and trading of complex financial securities. Firm quality has two dimensions; security production expertise, which creates a positive externality for other firms, and trading expertise, which allows firms to obtain more favorable prices when trading with other firms. We find that increasing the quality of securities, which in the model increases the scope for investment in trading expertise, leads to markets that exhibit greater concentration, firm heterogeneity, fragility, and price dispersion.

Complex Securities and Underwriter Reputation: Do Reputable Underwriters Produce Better Securities?

We generalize and correct a model of bargaining with endogenous information acquisition proposed by Dang (2008). Allowing for asymmetric information costs, we show that the opportunity to obtain information during the bargaining process can lead to inefficient outcomes when the responders cost of obtaining this information is low. We then show that, for very low costs, this inefficiency is robust to allowing agents to voluntarily increase their own information costs and potentially eliminate adverse selection problems.