Thomas E. Copeland

The Market Value of Information: Some Experimental Results

The authors examine the price and allocation of purchased information and of the underlying asset in eight double-auction asset market experiments. Observed outcomes support fully revealing rational expectations in simple environments in which uninformed traders can easily infer the private information of informed traders but support nonrevealing rational expectations in more complex environments. The private value of information is positive in the more complex (noisy) environments but competition forces the information price to its Nash equilibrium value and the net gain by purchasers is approximately zero. Copyright 1992 by University of Chicago Press.

A Note on the Evaluation of Cancellable Operating Leases

The paper provides a brief review of the analysis of pure financial leases. The second part solves the problem of evaluating the cancellable operating leases by using the Cox, Ross and Rubinstein binomial option pricing method. From the lessors point of view a cancellable operating lease is equivalent to a pure financial lease minus an American put option with a (non-stochastic) declining exercise price. The expected rate of return on a cancellable lease is shown to be higher than the rate on a pure financial lease.

Exchange Offers and Stock Swaps - New Evidence

Using data from the interval 1962-1984, we compare six explanations for exchange offers and swaps. Our empirical results are most consistent with the hypothesis that exchange offers are interpreted as signals about future cash flows. We find that leverage-increasing exchange offers result in decreases in systematic risk; increases in share-adjusted earnings, sales, and total assets; and that insider stock purchases increase shortly before the public announcement. Opposite results are found for leverage-decreasing exchange offers. In addition, leverage-increasing firms are one-tenth the size of leverage-decreasing firms and are more closely held. Separate cross-sectional regressions, first with the announcement day abnormal returns and then with changes in beta as dependent variables, also are consistent with the signalling hypothesis. Other than the signalling hypothesis, tax savings is the best among the remaining competing hypotheses. However, in cross-sectional tests using announcement returns as the dependent variable, the tax effect is significantly positive for a sample of 102 leverage-decreasing events. This single piece of evidence is inconsistent with the tax savings hypothesis.

Managing Corporate FX Risk: A Value-Maximizing Approach

This paper develops a new approach for evaluating FX management programs. It presents a value-maximizing strategy based on minimizing the probability of business disruption. It argues that such a policy is an appropriate objecting for a corporate FX hedging program and shows that minimization of the variance of the hedged cash flow is neither necessary no sufficient for an FX hedging program to be optimal.

Financial Theory and Corporate Policy.

I. FINANCIAL THEORY. 1. Introduction to Capital Markets, Consumption and Investment. 2. Investment Decisions: The Certainty Case. 3. Theory of Choice Under Uncertainty: Utility Theory. 4. State-Preference Theory. 5. Objects of Choice. 6. Market Equilibrium: CAPM and APT. 7. Pricing Contingent Claims: Option Price Theory and Evidence. 8. Futures Contracts and Markets - Term Structure - Cox, Ingersoll, Ross. 9. Multiperiod Aspects of Financial Theory - Real Options - Investment. 10. Efficient Capital Markets: Theory. 11. Efficient Capital Market: Evidence. 12. Information Asymmetry: Agency Cost Theory and Signaling. II. CORPORATE POLICY. 13. The Role of the CFO and Performance Measurement. 14. Valuation and Tax Policy. 15. Capital Structure. 16. Dividend Policy. 17. Applied Issues in Corporate Finance. 18. External Investment Decisions. 19. International Finance: Theory and Evidence. 20. Open-Ended Issues for Research.

VIX versus Size

VIX (CBOE Volatility Index) is often called the “fear index.” Using monthly returns from January 2000 to December 2011 as their data sample, the authors find that when the change in VIX is positive, large-capitalization stocks (the S&P 500) outperform small-capitalization stocks (the S&P 600); and when the change in VIX is negative, small-cap stocks outperform. Furthermore, the statistical significance of the change in VIX is substantially greater than SIZE (the natural logarithm of the market capitalization). The authors argue that the benefit of owning a small-cap stock depends on the distribution of the change in VIX in any given period. During the period July 2007–March 2009, both levels of the large-cap index (S&P 500) and the small-cap index (S&P 600) had a maximum drawdown over 50%, and the small-cap suffered much more than the large-cap. This huge drawdown demonstrates the importance of the effect of VIX on the cross section of stock returns

Revising Equity Valuation with Tail Risk

When VIX—a market index of volatility—increases, a firm’s response is to defer growth of investment. Simultaneously, the expected time to ruin, E(T), shortens, causing the firm’s value to decline more than commonly used valuation models suggest. The authors derive the characteristics of E(T) and revise valuation models that assume cash flows are growing perpetuities. They find that “value trap,” high-growth stocks, and “irrational exuberance” can be explained by incorporating E(T) into the traditional valuation models. Their empirical results show that the sensitivities of the 49 industry portfolios to the change in VIX are all significantly negative and undiversifiable and could be proxies for E(T).

Seeking q: The Marginal Efficiency of Liquidity and Its Effect on Investment Financing and Valuation

Just as portfolio managers are seeking positive alpha, corporate investors are seeking Tobins q larger than 1. The present paper develops a quantitative framework in which this process can be analyzed, and prescriptions for concrete financing decisions can be obtained. Specifically, we focus on how firms finance -- and profit from -- investment projects for which they have exclusive rights. Methodologically, the paper adheres to the contingent-claims valuation framework, but with liquidity as one of the underlying fundamentals. We develop a pricing method, which is based on the general idea of dynamic programming and mimics Cox, Ross, and Rubinstein (1979).

Industry Rotation and Time-Varying Sensitivity by VIX

In this article, the authors, one of whom was a doctoral student of Stephen A. Ross, investigate the cross section of industry returns and the effect of uncertainty as proxied by the VIX index. They find that different moments of the distribution of cross-sectional returns for industries are significantly correlated to both the change in VIX and the level of VIX. Furthermore, the size effect diminishes after controlling for the industry effect. The sensitivity to the change in VIX is time varying. Different VIX regimes and different events can alter industry sensitivities. Non-stationarity of the sensitivity may also introduce complexity on factor or smart beta strategies, which tilt toward a favorable risk premium factor. Finally, the authors propose a general approach for industry rotation.

Practical Applications of VIX versus Size

What explains the cross-section of returns in the US equity market? Maggie Copeland and Thomas Copeland, Co-Founders of Copeland Valuation Consultants, say that changes in VIX can explain stock returns. Their research shows that forward implied volatility, as measured by the VIX Index, is a key determinant,statistically more important than market cap. The VIX—the “fear gauge”—is a commonly used measure of market risk, a contrarian indicator that spikes when the stock market declines. Using a data sample from the period 2000–2011, the authors find that when the VIX has a positive move, large-cap stocks outperform small-cap stocks, and viceversa. Their finding debunks the commonly held assumption that the size effect always holds true.