Investor Networks in the Stock Market

Investor Networks in the Stock Market

Han N. Ozsoylev

Johan Walden

M. Deniz Yavuz

Recep Bildik

We study the trading behavior of investors in an entire stock market. Using an account

level dataset of all trades on the Istanbul Stock Exchange in 2005, we identify investors

with similar trading behavior as linked in an empirical investor network (EIN). Consistent

with the theory of information networks, we find that central investors earn higher returns

and trade earlier than peripheral investors with respect to information events. Overall, our

results support the view that information diffusion among the investor population influences

trading behavior and returns.

Do Security Analysts Speak in Two Tongues?

Do Security Analysts Speak in Two Tongues?

Ulrike Malmendier

University of California, Berkeley

Devin Shanthikumar

University of California, Irvine

Why do security analysts issue overly positive recommendations? We propose a novel

approach to distinguish strategic motives (e.g., generating small-investor purchases and

pleasing management) from nonstrategic motives (genuine overoptimism). We argue that

nonstrategic distorters tend to issue both positive recommendations and optimistic forecasts,

while strategic distorters “speak in two tongues,” issuing overly positive recommendations

but less optimistic forecasts. We show that the incidence of strategic distortion is large and

systematically related to proxies for incentive misalignment. Our “two-tongues metric”

reveals strategic distortion beyond those indicators and provides a new tool for detecting

incentives to distort that are hard to identify otherwise.

Connected Stocks


Connected Stocks



We connect stocks through their common active mutual fund owners. We show that the

degree of shared ownership forecasts cross-sectional variation in return correlation,

controlling for exposure to systematic return factors, style and sector similarity, and

many other pair characteristics. We argue that shared ownership causes this excess

comovement based on evidence from a natural experiment—the 2003 mutual fund

trading scandal. These results motivate a novel cross-stock-reversal trading strategy

exploiting information contained in ownership connections. We show that long-short

hedge fund index returns covary negatively with this strategy, suggesting these funds

may exacerbate this excess comovement.

Broad-based Employee Stock Ownership: Motives and Outcomes

Broad-based Employee Stock Ownership: Motives and Outcomes

E. Han Kim 

University of Michigan, Stephen M. Ross School of Business

Paige Parker Ouimet 

University of North Carolina at Chapel Hill
June 10, 2013
Journal of Finance, Forthcoming

Firms initiating broad-based employee share ownership plans often claim ESOPs increase productivity by improving employee incentives. Do they? The answer depends. Small ESOPs comprising less than 5% of shares, granted by firms with moderate employee size, increase the economic pie, benefitting both employees and shareholders. The effects are much weaker when there are too many employees to mitigate free-riding. Although some large ESOPs increase productivity and employee compensation, the average impacts are small, because they are often implemented for non-incentive purposes, such as conserving cash by substituting wages with employee shares or forming a worker-management alliance to thwart takeover bids.


Investing Process – Thirty Years of Shareholder Rights and Firm Valuation

Thirty Years of Shareholder Rights and Firm Valuation

Martijn Cremers 

University of Notre Dame

Allen Ferrell 

Harvard Law School; European Corporate Governance Institute (ECGI)
July 2013
Journal of Finance, Forthcoming

This paper introduces a new hand-collected dataset tracking restrictions on shareholder rights at approximately 1,000 firms over 1978-1989. In conjunction with the 1990-2006 IRRC data, we track firms’ shareholder rights over thirty years. Most governance changes occurred during the 1980s. We find a robustly negative association between restrictions on shareholder rights (using the G-Index as a proxy) and Tobin’s Q. The negative association only appears after the judicial approval of antitakeover defenses in the 1985 landmark Delaware Supreme Court decision of Moran v. Household. This decision was an unanticipated, exogenous shock that increased the importance of shareholder rights.


Worth the Hype? The Relevance of Paid-For Analyst Research for the Buy-and-Hold Investor

Worth the Hype? The Relevance of Paid-For Analyst Research for the Buy-and-Hold Investor

Bruce K. Billings 

Florida State University – Department of Accounting

William L. Buslepp 

Texas Tech University – Area of Accounting

George Ryan Huston 

University of South Florida – School of Accountancy; Florida State University – Department of Accounting
September 4, 2013
Accounting Review, Forthcoming

The SEC Advisory Committee on Smaller Public Companies recommends paid-for research to fill the void created by declining sell-side coverage. Potential conflicts of interest inherent in paid-for research challenge this recommendation. We evaluate whether paid-for research provides value to investors or merely reflects hype. Analyses of one- and two-year ahead paid-for earnings forecasts fail to identify significant bias. Using a portfolio approach, favorable (unfavorable) paid-for recommendations yield positive (negative) stock returns at release, with upward (downward) drift over the following year. Regressing future stock returns on recommendations and valuation estimates using paid-for analysts’ forecasts yields similar results. Further, results fail to indicate significant differences in paid-for and matched sell-side research. Overall, our evidence suggests that paid-for research provides relevant information for the buy-and-hold investor that is comparable to that of matched sell-side research, providing empirical support for the SEC Advisory Committee recommendation.


Tone Management

THE ACCOUNTING REVIEW American Accounting Association

Vol. 89, No. 3 DOI: 10.2308/accr-50684 2014 pp. 1083–1113

Tone Management

Xuan Huang

Siew Hong Teoh

Yinglei Zhang

ABSTRACT: We investigate whether and when firms manage the tone of words in

earnings press releases, and how investors react to tone management. We estimate

abnormal positive tone,ABTONE, as a measure of tone management from residuals of a

tone model that controls for firm quantitative fundamentals such as performance, risk,

and complexity. We find that ABTONE predicts negative future earnings and cash flows,

is positively associated with upward perception management events, such as, just

meeting/beating thresholds, future earnings restatements, SEO, and M&A, and is

negatively associated with a downward perception management event, stock option

grants. ABTONE has a positive stock return effect at the earnings announcement and a

delayed negative reaction in the one and two quarters afterward. Balance sheet

constrained firms and older firms are more likely to employ tone management over

accruals management. Overall, the evidence is consistent with managers using strategic

tone management to mislead investors about firm fundamentals.

Optimistic Reporting and Pessimistic Investing: Do Pro Forma Earnings Disclosures Attract Short Sellers?

Optimistic Reporting and Pessimistic Investing: Do Pro Forma Earnings Disclosures Attract Short Sellers?

Theodore E. Christensen 

Brigham Young University – Marriott School of Management

Michael S. Drake 

Brigham Young University – Marriott School

Jacob R. Thornock 

University of Washington – Michael G. Foster School of Business
September 24, 2012
Contemporary Accounting Research, Forthcoming

We contribute to the debate regarding the informativeness of pro forma earnings disclosures by providing evidence that a group of informed traders, short sellers, trade as if firms’ voluntary non-GAAP earnings disclosures create information advantages they can exploit. While prior research indicates that short sellers identify firms that will experience declining operating performance, we investigate whether the disclosure of pro forma earnings acts as an indicator of future price declines that is distinct from poor operating performance. We find that short selling is significantly higher in quarters in which firms disclose non-GAAP earnings metrics relative to quarters in which they do not disclose adjusted earnings measures. Moreover, we find that short selling is significantly positively associated with the exclusion of recurring items and, more particularly, with the exclusion of stock-based compensation. We also find some evidence that short sellers trade more when managers exclude expense items to appear to meet analysts’ expectations on a pro forma basis when they fall short of expectations based on GAAP operating earnings. Finally, we find evidence based on abnormal returns suggesting that short sellers profit from short selling around earnings announcements containing pro forma earnings disclosures. Overall, the results are consistent with the notion that sophisticated market participants view pro forma earnings disclosures negatively and trade in order to take advantage of potential information asymmetries created by these disclosures.


Investing Process – How Does Earnings Management Influence Investors’ Perceptions of Firm Value? Survey Evidence from Financial Analysts

How Does Earnings Management Influence Investors’ Perceptions of Firm Value? Survey Evidence from Financial Analysts

Abe De Jong 

Erasmus University – Rotterdam School of Management

Gerard Mertens 

Erasmus University Rotterdam (EUR) – Department of Financial Management

Marieke Van der Poel 

Erasmus University – Rotterdam School of Management

Ronald Van Dijk 

ING Investment Management
February 26, 2013
Review of Accounting Studies, Forthcoming

Survey evidence shows CFOs to believe that earnings management can enhance investor valuation of their firms. This evidence raises the question of correspondence between the beliefs of CFOs and investors. Surveying financial analysts to gain insight into how earnings management influences investor perception of firm value, we find analysts’ and CFOs’ beliefs to be generally consistent. We find that analysts perceive meeting earnings benchmarks and smoothing earnings to enhance investor perception of firm value, and all earnings management actions to reach a benchmark, save share repurchases, to be value destroying. CFOs, however, are reluctant to repurchase shares, preferring to use techniques viewed by analysts as value destroying (e.g., reductions in discretionary spending). Analysts’ inability to unravel such techniques perhaps explains CFOs’ preferences.

Valuation-driven profit transfer among corporate segments

Rev Account Stud (2014) 19:805–838

Valuation-driven profit transfer among corporate segments

Haifeng You

Published online: 4 February 2014

Springer Science+Business Media New York 2014

Abstract This paper investigates whether the desire to achieve higher equity

valuations induces conglomerates to manipulate their segment earnings. I extend the

Stein (Q J Econ 104:655–669, 1989) model to a multi-segment setting and show that

conglomerates have incentives to transfer profits from segments operating in

industries with lower valuation multiples to those with higher multiples, even if the

market is not fooled in equilibrium. If companies engage in such manipulation,

segments with relatively high (low) valuations should report abnormally high (low)

profits. The empirical tests confirm this prediction and further show that the relation

is stronger for firms with more dispersed segment valuations. This paper also

demonstrates that the simple sum-of-the-parts valuation with multiples tends to

overestimate the enterprise values for conglomerates and that the measurement

errors increase with segment valuation dispersion.

CEO Power and Mergers and Acquisitions

CEO Power and Mergers and Acquisitions

Ning Gong 

University of Melbourne; Financial Research Network (FIRN)

Lixiong Guo 

Australian School of Business at UNSW; Financial Research Network (FIRN)
May 12, 2014
FIRN Research Paper

We find CEO power in acquiring firms can explain the occurrence of both large value creation and destruction deals in M&A. Specifically, we find firms with powerful CEOs make fewer deals and the returns on those deals are less dispersed. Firms with powerful CEOs are also less likely to do all cash deals and use a larger proportion of stocks in payments. We relate this to the incentive of powerful CEOs to avoid making big salient mistakes in major firm decisions to protect them from adverse career consequences. However, we also find that firms with powerful CEOs are more reluctant to withdraw deals given negative market reactions to the announcements of the deals, which suggests that powerful CEOs do pursue deals that increase their private benefits of control while avoiding deals with high ex ante uncertainty. Our evidence offers a new perspective on M&A deals with extreme returns and CEO objectives.

Alliances and Return Predictability

Alliances and Return Predictability

Jie Cao 

Chinese University of Hong Kong – Department of Finance

Tarun Chordia 

Emory University – Department of Finance

Chen Lin 

University of Hong Kong – Faculty of Business and Economics
May 8, 2014

A trading strategy designed to exploit the information contained in the returns of alliance partners, yields economically and statistically significant returns. A long-short portfolio sorted on lagged returns of strategic alliance partners provides a return of 89 basis points per month that is robust to a number of specifications. Increased correlation in returns after the formation of alliances is driven by increased economic links and the increased probability of mergers amongst alliance partners. Investor inattention and limits to arbitrage may be the source of underreaction of a firm’s returns to that of its partners’.

P/E Versus The EV/EBITDA

P/E Versus The EV/EBITDA

by Rupert HMay 30, 2014, 4:46 pm

I have noticed, that with merger mania in full swing, Wall Street is turning to increasingly disjointed and exotic valuation metrics in order to justify the high valuations, (by value investing standards) that are now being placed on many stocks. None of these is more prevalent and suspect than the EV/EBITDA ratio. Read more of this post

Penny Stocks: A Warning for Investors: Scammers try to boost the price of the stocks and then sell their own shares for a profit

Penny Stocks: A Warning for Investors

Scammers try to boost the price of the stocks and then sell their own shares for a profit.


May 30, 2014 4:07 p.m. ET

Email messages promoting penny stocks have surged, and regulators are warning that scammers try to boost the price of the stocks and then sell their own shares for a profit. Read more of this post

A nine-point checklist for value investors

A nine-point checklist for value investors


Special to The Globe and Mail

Published Thursday, May. 29 2014, 3:14 PM EDT

Last updated Friday, May. 30 2014, 2:24 PM EDT

Two fundamental tenets of modern portfolio theory are the notion of diversification and that the only risk that matters is beta. Rather than holding one or a few stocks, investors instead should hold a large basket of stocks. According to the theory, diversification helps investors minimize risk as most of the company-specific risk evaporates in a well-diversified portfolio. Read more of this post

The Disclose or Abstain Incentive to Issue Management Guidance

The Disclose or Abstain Incentive to Issue Management Guidance

Edward X. Li 

City University of New York (CUNY) – Stan Ross Department of Accountancy

Charles E. Wasley 

University of Rochester – Simon Business School

Jerold L. Zimmerman 

University of Rochester – Simon Business School
May 16, 2014
Simon School Working Paper No. FR 14-10

Prior research generally argues that managers issue management earnings forecasts (MFs) to secure capital market benefits (i.e., reduce information asymmetry between managers and investors to lower a firm’s cost of capital), to reduce the firm’s litigation costs, or to allow managers to trade opportunistically in their firm’s stock. We discuss and test whether some MFs are issued because managers have an affirmative duty under Rule 10b-5 of the Securities Acts to disclose all material information or to abstain from trading in their firm’s securities. Four sets of tests support our conjecture that managers issue some MFs to comply with their duty under Rule 10b-5. Since prior MF studies have typically ignored the alternative explanation that managers issue some MFs to comply with disclose or abstain obligations the inferences drawn from such studies about managerial incentives to issue MFs likely overstate the economic significance of the variables used to capture capital market or opportunistic incentives for MF disclosure.

Looking for Risk in Words: A Narrative Approach to Measuring the Pricing Implications of Finance Constraints

Looking for Risk in Words: A Narrative Approach to Measuring the Pricing Implications of Finance Constraints

Matthias M. M. Buehlmaier 

The University of Hong Kong

Toni M. Whited 

University of Rochester – Simon Business School; National Bureau of Economic Research
March 15, 2014
Simon School Working Paper No. FR 14-11

We construct a novel measure of financial constraints using textual analysis and investigate its impact on stock returns. Unlike other financial constraints measures, ours is consistent with firm characteristics of constrained firms. We find that constrained firms’ returns move together. The variation of a financial constraints factor cannot be explained by the Fama-French and momentum factors, earning an annualized risk-adjusted excess return of 7%. A stock trading strategy based on financial constraints is most profitable for large and liquid stocks, and when the financial constraints are measured by access to debt markets instead of equity markets.


Giving Yourself an Investing Makeover; If you set out deliberately and systematically to remake yourself into a great investor, how would you go about it?

May 23, 2014


Giving Yourself an Investing Makeover


If you set out deliberately and systematically to remake yourself into a great investor, how would you go about it?


That is what the money manager Guy Spier has spent much of the past 17 years trying to figure out. He believes that most investors pay attention to the wrong things and allow their minds to get hijacked by bad ideas. Read more of this post

Scale and Skill in Active Management

Scale and Skill in Active Management

Lubos Pastor 

University of Chicago – Booth School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Robert F. Stambaugh 

University of Pennsylvania – The Wharton School; National Bureau of Economic Research (NBER)

Lucian Taylor 

University of Pennsylvania – The Wharton School
January 31, 2014

Abstract:       Read more of this post

Cliff Asness New Whitepaper Fact, Fiction and Momentum Investing

Cliff Asness New Whitepaper Fact, Fiction and Momentum Investing

by VW StaffMay 11, 2014, 2:58 pm

Cliff Asness new whitepaper Fact, Fiction and Momentum Investing H/T Climateer Investing

It’s been over 20 years since the academic discovery of momentum investing (Jegadeesh and Titman (1993), Asness (1994)), yet much confusion and debate remains regarding its efficacy and its use as a practical investment tool. In some cases “confusion and debate” is us attempting to be polite, as it is near impossible for informed practitioners and academics to still believe some of the myths uttered about momentum — but that impossibility is often belied by real world statements. In this article, we aim to clear up much of the confusion by documenting what we know about momentum and disproving many of the often-repeated myths. We highlight ten myths about momentum and refute them, using results from widely circulated academic papers and analysis from the simplest and best publicly available data. Read more of this post

Shell Games: Are Chinese Reverse Merger Firms Inherently Toxic?

Shell Games: Are Chinese Reverse Merger Firms Inherently Toxic?

Charles M.C. Lee 

Stanford University – Graduate School of Business

Kevin K. Li 

University of Toronto – Rotman School of Management

Ran Zhang 

Guanghua School of Management
March 25, 2014
Rock Center for Corporate Governance at Stanford University Working Paper No. 183

Abstract:       Read more of this post

Who Trades Against Mispricing?

Who Trades Against Mispricing?

Mariassunta Giannetti 

Stockholm School of Economics; Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); Swedish House of Finance

Bige Kahraman 

Stockholm School of Economics – Department of Finance; Swedish House of Finance
April 1, 2014
Swedish House of Finance Research Paper No. 14-09

Abstract:       Read more of this post

Investing Process – Ownership Concentration and Corporate Control in Chinese Listed Companies

Ownership Concentration and Corporate Control in Chinese Listed Companies

Wenge Wang 

University of Auckland – Faculty of Law
January 27, 2014
Wenge Wang, Ownership Concentration and Corporate Control in Chinese Listed Companies, 11 (1) US-China Law Review, 57-93 (2014)

This paper investigates the ownership concentration and corporate control of Chinese listed companies in the period of 2003-2011. The purpose is to examine the practical effect of the share structure split reform in 2005 and explore the actual outcome of the reduction of state shares of Chinese listed companies. Specifically, ownership structure, shareholding concentration, shareholder identification and corporate control pattern are identified to serve for this purpose.

Read more of this post

Voodoo Investment Strategies: Mathematicians on the attack

Voodoo Investment Strategies

Mathematicians on the attack.

By John Rekenthaler | 05-08-14 | 10:45 AM | Email Article

Firing a Broadside
Immediately after I finished yesterday’s column on technical analysis, a related paper landed on my desk: “Pseudo-Mathematics and Financial Charlatanism: The Effects of Backtest Overfitting on Out-Of-Sample Performance.” Read more of this post

Understanding Corporate Governance Through Learning Models of Managerial Competence

Understanding Corporate Governance Through Learning Models of Managerial Competence

Benjamin E. Hermalin, Michael S. Weisbach

NBER Working Paper No. 20028
Issued in April 2014
A manager’s shareholders, board of directors, and potential future employers are continually assessing his ability. A rich literature has documented that this insight has profound implications for corporate governance because assessment generates incentives (good and bad), introduces assorted risks, and affects the various battles that rage among the relevant actors for corporate control. Consequently, assessment (or learning) is a key perspective from which to study, evaluate, and possibly even regulate corporate governance. Moreover, because learning is a behavior notoriously subject to systematic biases, this perspective is a natural avenue through which to introduce behavioral and psychological insights into the study of corporate governance.

Big Data in Finance: Sentiment-extraction from News

Big Data in Finance: Sentiment-extraction from News

Using big data in finance: Example of sentiment-extraction from news articles
Nitish Sinha
FEDS Notes, March 26, 2014

There is much discussion and research in finance on using “big data” to understand market “sentiment.” In this note, I will draw on some of my own research in behavioral finance–Sinha (2010) and Heston and Sinha (2013)–to share my perspective the current state of affairs in this area, particularly on the meaning of “sentiment” in the context of big data research.1

Read more of this post

How Talking To Management Can Sometimes Backfire

How Talking To Management Can Sometimes Backfire

by VW StaffMarch 28, 2014, 4:00 pm

An integral part of most institutional investors’ analysis involves meeting with management to gain deeper insight into a company’s strategy and prospects. Read more of this post

Johnson Controls: From A Single Idea To $42.7 Billion In Sales

Johnson Controls: From A Single Idea To $42.7 Billion In Sales

by FastGraphsMarch 27, 2014, 2:58 pm

Johnson Controls (JCI) traces its roots back to an interesting bit of history. One hundred and thirty-one years ago, Warren Johnson was a professor in Whitewater, Wisconsin. It was here that he invented and installed the first electric tele-thermoscope – known today as the thermostat – in his classrooms. The invention served a dual purpose: it kept his students more comfortable and put an end to the hourly interruptions from the janitor checking the rooms’ temperature. Of course we can’t confirm this, but it would be our guess that Professor Warren was a regular student favorite. Read more of this post

Shares of Prince Frog (1259) plunged up to 27.% yesterday after its 2013 earnings fell, and the child-care products maker said it may repurchase shares again

Prince Frog thinks about reverse hop
Friday, March 28, 2014
Shares of Prince Frog International Holdings (1259) plunged up to 27.3 percent yesterday after its 2013 earnings fell, and the child-care products maker said it may repurchase shares again.

The stock hit a one-year low of HK$2.32 before closing at HK$2.38 – down 25.4 percent. It came a day after the Fujian-based firm said net profit last year tumbled 17.2 percent from 2012 to 200 million yuan (HK$249.6 million). Read more of this post

You need an investing system

Wednesday, March 26, 2014

You need an investing system

Nate Tobik

Investors seem to have an intrinsic drive to classify themselves.  People will say something like “I’m a mix of Graham and Buffett with a dash of Rockefeller and the temper of Carnegie.”  Sometimes these classifications border on ridiculous, other times confusing.  Even still investors continue to classify themselves.  We use these heuristics because often it’s easier to identify with an investor’s system, rather than developing our own system for investing. Read more of this post

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