Suhas A. Sridharan

2013

This paper examines whether financial statement information can predict future realized volatility incremental to the volatility implied by option market prices. Prior research establishes that option-implied volatility is a biased estimator of future realized volatility. I use an analytical framework to identify accounting-based drivers of equity returns volatility. My main hypothesis is accounting-based drivers can be used to forecast future volatility incremental to either past volatility or the market’s expectation of future volatility quantified as option-implied volatility. I confirm this empirically and show that my findings are robust to the measurement of option-implied volatility using either a model-free approach or the Black-Scholes model. I also document abnormal returns to a option-based trading strategy that takes a long (short) position in firms with financial statement information indicative of high (low) future volatility. Additionally, I provide evidence that contradicts a risk-based explanation for the incremental predictive ability of accounting-based variables. Taken together, my results indicate that the market’s failure to fully process accounting-based fundamental information explains some of the previously documented bias in implied volatility.

2015

We examine whether an increase in ETF ownership is accompanied by a decline in pricing efficiency for the underlying component securities. Our tests show an increase in ETF ownership is associated with: (1) higher trading costs (bid-ask spreads and market liquidity); (2) an increase in “stock return synchronicity”; (3) a decline in “future earnings response coefficients”; and (4) a decline in the number of analysts covering the firm. Collectively, our findings support the view that increased ETF ownership can lead to higher trading costs and lower benefits from information acquisition. This combination results in less informative security prices for the underlying firms.

We investigate whether shocks to trading volume of a stock contain information about future corporate investment activity; an unexplored prediction of the link between the high-volume return premium and the Merton (1987) investor recognition hypothesis. Using a q-theory model of corporate investment as a framework, we document a positive relation between abnormal trading volume around earnings announcements and future investment expenditures. The relation persists across quarterly and annual horizons and, consistent with theory, is concentrated among firms with high financing constraints. We also find that shocks to trading volume serve as an important channel for facilitating the previously documented contemporaneous relation between investor recognition and corporate investments. Taken together, consistent with the idea that extreme trading activity of a stock is associated with an increase in firm visibility, our study suggests that shocks to trading volume play an important role in enhancing corporate investment activity.

We investigate whether and to what extent distractions affect investors' reactions to firm announcements. We use a daily news pressure index as a proxy for the presence of potential investor distraction. Since breaking news captured by this index is largely unpredictable and unrelated to investors' valuation decisions, our research design offers a unique opportunity to examine investor attention in the absence of strategic timing of announcements by managers. We examine a broad set of corporate announcements to further explore how investor attention varies with announcement type. Using overall trading and Google search volume as measures of investor attention, we find that investors are susceptible to distraction in their reactions to corporate announcements. Our findings also reveal that investor attention varies with announcement type and that retail investors are particularly susceptible to distractions.

We examine whether firms' political hedging activities are effective at mitigating political risk. Focusing on the risk induced by partisan politics, we measure political hedging as the degree to which firms' political connections are balanced across Republican and Democratic candidates. We find that greater political hedging is associated with reduced stock return volatility, particularly during periods of higher policy uncertainty. Similarly, greater political hedging is associated with reduced crash risk, investment volatility, and earnings volatility. Moreover, the reduction in earnings volatility appears to relate to both a firm's taxes and its operating activities, as we find that greater political hedging is associated with reduced cash effective tax rate volatility and pretax income volatility. We further find investors are better able to anticipate future earnings for firms that engage in political hedging, suggesting that political hedging helps improve firms' information environments. Lastly, we perform an event study using President Obama's Clean Power Plan. We find that on the days this policy proposal was debated in Congress, energy and utility firms experience heightened intra-day return volatility (relative to other firms and non-event days). However, this heightened volatility is mitigated for energy and utility firms that are more politically hedged. Overall, we conclude that political hedging is an effective risk management tool that helps mitigate firm risk.

We investigate the effect of gubernatorial partisanship on municipal bond issues in the United States using a regression discontinuity design. Our unique dataset of individual bond issues allows us to precisely measure the issuing behavior of different entity types – states, state authorities, and localities – and examine how the response of debt issues to gubernatorial partisanship varies across jurisdictions.