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 novel setting in which retailers receive bonuses when selling jackpot winning lottery tickets, we show that large windfalls not only increase the revenue and employment of existing businesses but also spur serial entrepreneurship. Serial ventures occur mainly in nonretail industries. We document a pecking order in entrepreneurs' responses: small windfalls increase revenue, whereas windfalls larger than $100,000 trigger business creation and employment growth. Consistent with wealth effects as an indispensable mechanism, the effects become larger still when cash windfalls far surpass the amount required to start new businesses. Finally, cash windfalls do not lead to financial distress.

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 'Actual Retail Price' of Equity Trades

(with Brad Barber,  Philippe Jorion, Terrance Odean and Christopher Schwarz) 

[ Link ]

We compare execution quality of six brokerage accounts across five brokers by generating a sample of 85,000 simultaneous market orders. Commission levels and payment for order flow (PFOF) differ across our accounts. We find that execution prices vary significantly across brokers: the mean account-level round-trip cost ranges from –0.07% to –0.45% excluding any commissions. The dispersion is due to off-exchange wholesalers systematically giving different execution prices for the same trades to different brokers. Across brokers, variation in PFOF cannot explain the large variation in price execution. We provide several suggestions for more informative disclosures on execution quality.

12. A (Sub)penny For Your Thoughts: Tracking Retail Investor Activity in TAQ

(with Brad Barber,  Philippe Jorion, Terrance Odean and Christopher Schwarz) 

[ Link ]

We placed over 85,000 retail trades at six retail brokers to validate the Boehmer et al. (2021) algorithm, which uses subpenny trade prices to identify and sign retail trades. The algorithm identifies only 35% of our trades as retail, incorrectly signs 28% of trades, and yields uninformative order imbalance measures for 30% of stocks. We develop a new algorithm to identify and sign retail trades, based on a range around quoted spread midpoints. The new method does not affect identification rates but reduces the signing error rates to 5% and provides informative order imbalance measures for all stocks.

13. 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.

14. Risk Aversion Spillover: Evidence from Financial Markets and Controlled Experiments

(with Nancy R. Xu)

[ Link ]

We study risk aversion (RA) spillovers from the US to several major devel- oped economies. In our observational study, we use financial market and news data from 2000 to 2017 to identify US events that lead to extreme changes in an option-based risk premium measure but not in uncertainty, which we label as "risk aversion events." The international pass-through of US high RA events (61%) is significantly higher than that of US low RA events (43%), suggesting an asymmetric risk aversion spillover. In our controlled experiment, non-US subjects, when primed with a US financial bust shock, exhibited asymmetrically larger changes in risk aversion and general emotions than those primed with a US boom shock. The “foreign” nature of bust shocks may change emotions more than boom shocks, due to unfamiliarity. This non-fundamental emotion-based channel explained 20% of the RA spillover asymmetry in our experiment.

15. 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.

16. 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.