Volume 8, Number 4, 2007 Abstracts
© Copyright Taylor & Francis, LLC. 2007

The Geography of S&P 500 Stock Returns
David Barker - University of Iowa
Tim Loughran - University of Notre Dame

Investor bias in favor of geographically close firms has been documented in previous papers. An implication of this bias is that if local events cause nearby investors to trade together, then the correlation of stock returns of pairs of firms will increase as the distance between them decreases. We test this hypothesis using a sample of Standard & Poor's (S&P) 500 companies. After adjusting for industry effects and other factors, we find that the correlation coefficient between two stocks increases 12 basis points for every 100-mile reduction in distance. This result is consistent with local shocks affecting the returns of nearby firms by an average of approximately 43 basis points per month. We conclude these shocks are most likely the result of trading activity by local investors who own shares in nearby firms.

The Hot Stock Tip from Debbie: Implications for Market Efficiency
Kenneth Small - Coastal Carolina University
Jeff Smith - Air Force Institute of Technology

In July and August 2004 thousands of messages were left on answering machines across the United States touting Maui General Stores (MAUG). Interestingly, these messages contained no material information, but the price of MAUG experienced a significant increase in value. According to the Securities and Exchange Commission (SEC), MAUG's market capitalization increased by more than $100 million. However, the price of MAUG returned to its “pre-message” level after the firm's CEO enters the market on the sell side, well before the SEC announced the messages as a scam. We discuss how this event expands our understanding of market efficiently.

Earnings per Share: Stylized Facts and New Paradigms
Rolando F. Pelaez - University of Houston

The paradigm that inspired the equity price bubble of the 1990s is inconsistent with the long-term earnings expectations that a rational agent could draw from the stylized facts available in real time. The paper identifies the stylized facts that characterize the behavior of accounting earnings per share (EPS) that Standard & Poor's has reported for the S&P 500 index since 1935. Estimation of an unobserved components model in state-space form shows that the long-run component of earnings is predictable, and that its growth rate has obeyed a deterministic process for three-quarters of a century. It is impossible to reconcile a deterministic slope in log EPS with the new paradigms and other delusions regarding earnings that periodically generate equity bubbles. The evidence is inconsistent with market rationality, and buttresses a behavioral theory of finance in which folly occasionally occupies center stage.

Information-Adjusted Noise Model: Evidence of Inefficiency on the Australian Stock Market
Vikash Ramiah - RMIT University
Sinclair Davidson - RMIT University

We describe the interaction between noise traders and information traders. We do not assume that information traders are error-free. Instead information traders make mistakes leading to under-reaction and over-reaction. Information traders may even add to pricing errors in the market. These interactions are captured in our information-adjusted noise model. We test our model using data from the Australian Stock Exchange. This market has a continuous information disclosure regime that allows us to determine when information is released to the market. We present evidence consistent with the notion that the market is often informationlly inefficient.

Managerial Overoptimism and the Choice Between Debt and Equity Financing
Michael Gombola - Drexel University
Dalia Marciukaityte - Louisa Tech University

This paper compares long-run stock performance following debt financing and equity financing for a sample of rapidly growing firms. If managers are subject to overly optimistic predictions for their asset acquisitions, they are more likely to finance asset growth by debt rather than by equity. The managerial overoptimism hypothesis predicts worse long-term performance for debt-financed asset acquisitions than equity-financed asset acquisitions. If, on the other hand, managers take advantage of “windows of opportunity” for issuing equity, we expect worse performance following equity issuance than following debt issuance. Consistent with the managerial overoptimism hypothesis, we find that debt financing is followed by significantly worse stock performance than equity financing. Managerial overoptimism seems to be a significant factor affecting the choice between debt and equity financing and post-financing stock performance.