WORKING PAPERS

8. More Money, More Options? The Effect of Cash Windfalls on Entrepreneurial Activities in Small Businesses

(with Jacelly Cespedes and Carlos Parra)

R&R at Review of Financial Studies

[ Link ]

Using a unique setting that exploits the bonuses that retailers earn when selling jackpot winning lottery tickets, we show that large windfalls not only increase revenue and employment but also spur business creation. The new businesses are mainly in nonretail industries and are associated with the closing of existing businesses. There is a pecking order in entrepreneurs' growth decisions: small windfalls increase revenue, whereas windfalls larger than $100,000 trigger business creation and employment. That the probability of creating new businesses increases after constraints cease to bind suggests that wealth effects play an important role in explaining our results.

9. Angel Investment and First Impressions

(with Zoran Ivković, John Jiang, and Isabel Wang) 

R&R at Journal of Financial Economics

[ Link ]

First impressions of human visual cues play a significant role in many investment settings. We study the role of first impressions in angel investing, a decision-making process characterized by pronounced information asymmetry. Using video stills of entrepreneurs pitching to angel investors in two real-life settings (Shark Tank TV show and Startup Battlefield competitions), we obtain six measures of entrepreneurs’ facial traits and extract two principal components: competence/confidence and attractiveness/likability. We find positive associations between both components and the likelihood of entrepreneurs receiving angel investment or winning a competition round. Post-event business outcome analyses suggest that angel investors internalize entrepreneurs’ competence/confidence rationally, but exhibit irrational tendencies when internalizing entrepreneurs’ attractiveness/likability. Gaining investment decision-making experience mitigates angel investors’ irrational use of attractiveness/likability cues.

10. Leveraging Overconfidence

(with Brad Barber, K. Jeremy Ko, and Terrance Odean) 

R&R at Journal of Financial Economics

[ Link ]

In theory, investors who have low security selection ability trade more, use leverage more, and perform worse if they are overconfident. We confirm these predictions empirically by analyzing the overconfidence, trading, and performance of retail investors who use margin. Using survey data, we measure overconfidence as the difference between an investor’s self-assessment of knowledge and tested knowledge; margin investors have greater overconfidence than cash investors. Using broker data, we find margin investors trade more, speculate more, and have worse security selection ability than cash investors. A long-short portfolio that follows the trades of margin investors loses 35 bps per day.

11. The True Colors of Money: Racial Diversity and Asset Management

(with Lina Han, Ohad Kadan, Jimmy Wu) 

[ Link ]

This paper studies the role of race and ethnicity in the investment decisions of mutual fund managers and mutual fund investors. Mutual funds managed by a white-dominant team account for more than 90% of all funds. Such funds invest a smaller proportion of their portfolios in firms led by minority CEOs compared to funds managed by a minority-dominant team. Fund managers do not deliver superior performance on equity holdings for which the CEO's race coincides with their own, suggesting no race-related informational advantage. Considering flow-performance sensitivity, we find that funds managed by a minority-dominant team are equally penalized when they perform poorly but are not rewarded as much for superior performance as white-dominant funds. Our results uncover the differential treatment of minority-led funds and firms by investors.

12. Risk Aversion Propagation: Evidence from Financial Markets and Controlled Experiments

(with Nancy R. Xu)

[ Link ]

While the time variation in investor risk appetite is widely examined, there is scant research on how investor risk appetite may respond in an international context. We study risk aversion (RA) propagation from US to other major developed economies using both financial market data and controlled experiments. By exploiting daily financial market and news data between 2000 and 2017, we identify US risk aversion events -- both high and low -- and show that the international pass-through of US high RA events is significantly higher (61%) than that of US low RA events (43%), suggesting asymmetric US risk aversion propagation. Next, in our experiment, non-US subjects when primed with a US financial bust shock exhibited asymmetrically lower positive emotion, higher negative emotion and higher risk aversion than those primed with a US boom shock. The foreign nature of negative shocks may change emotions more than that of positive shocks, hence resulting in asymmetric risk aversion propagation. Our evidence shows that such an "emotion''-related mechanism explained up to 20% of the asymmetry.

13. Credit Score Doctor

(with Luojia Hu, Andrei Simonov) 

We study how the existence of cutoffs in credit scores affects the behavior of homebuyers. Borrowers are more likely to purchase houses after their credit scores cross over a cutoff to qualify them for a higher credit score bin. However, the credit accounts of these individuals (crossover group) are more likely to become delinquent within four years following home purchases than the accounts of those who had stayed in the same bin (non-crossover group). The effect is not only concentrated in subprime bins, but in other bins as well. It is neither limited to pre-crisis period nor curtailed by post-bust reforms. Using recent house price growth to proxy for the incentives for home purchases, we find that the gap in the delinquency rates between crossover and non-crossover groups is larger for areas with higher recent house price growth. Overall, our results indicate that the credit score at the time of home purchase may not be sufficiently informative because of individuals’ strategic behavior, and suggest the importance of using the longer history of credit scores rather than just the latest draw in making lending decisions.

14. Swayed by Sweet Talk? Textual Analysis of Index Fund Prospectuses

(with Alexandre Ferko, Hayong Yun) 

We study the impact of the linguistic content of index fund prospectuses on investor demands. Even after controlling for lagged fund returns, fees and fund family effects, we find a significant association between positive sentiment words and investor fund flows. The effect is concentrated in broker-sold flows, where the use of positive sentiment words is associated with a 0.0074% increase in monthly fund flows, which equates to $9.78M monthly at the mean broker fund size. In contrast, direct-sold flows respond negatively to the use of positive sentiment words. In addition, funds that use positive sentiment words have higher expenses than funds without positive sentiment words. These findings suggest that investors relying on brokers are talked into buying expensive funds with positive sentiment words; these funds do not outperform funds without positive sentiment words. Using an online survey that controls for unobserved contractual features, we confirm that the use of positive sentiment words drives the diverging prospectus selections of financially sophisticated and unsophisticated investors.