This paper examines the dynamic relationship between daily stock and government bond returns of s... more This paper examines the dynamic relationship between daily stock and government bond returns of selected countries over the past decade to infer the state and progress of interfinancial market integration. We proceed to empirically investigate the influence of the European Monetary Union (EMU) on time-variations in inter-stock-bond market integration/segmentation dynamics using a two-step procedure. First, we document the downward trends in time-varying conditional correlations between stock and bond market returns in European countries, Japan and the US. Second, we investigate the causality and determinants of this interdependent relationship, in particular, whether the various macroeconomic convergence criteria associated with the EMU have played a significant role. We find that real economic integration and the reduction in currency risk have generally had the desired effect on financial integration but monetary policy integration may have created uncertain investor sentiments on the economic future of the European monetary union, thereby stimulating a flight to quality phenomenon.
The Review of Corporate Finance Studies, Mar 5, 2020
This paper examines the impact of promotion-based tournament incentives on corporate acquisition ... more This paper examines the impact of promotion-based tournament incentives on corporate acquisition performance. Measuring tournament incentives as the compensation ratio between the CEO and other senior executives, we show that acquirers with greater tournament incentives experience lower announcement returns. Further analysis shows that the negative effect is driven by the risk-seeking behavior of senior executives induced by tournament incentives. Our results are robust to alternative identification strategies. Our evidence highlights that senior executives, in addition to the CEO, play an influential role in acquisition decisions. (JEL G30,
The Review of Corporate Finance Studies, Apr 13, 2023
We analyze how creditor rights affect the nonsynchronicity of global corporate credit default swa... more We analyze how creditor rights affect the nonsynchronicity of global corporate credit default swap spreads (CDS-NS). CDS-NS is negatively related to the country-level creditor-control rights, especially to the “restrictions on reorganization” component, where creditor-shareholder conflicts are high. The effect is concentrated in firms with high investment intensity, asset growth, information opacity, and risk. Pro-creditor bankruptcy reforms led to a decline in CDS-NS, indicating lower firm-specific idiosyncratic information being priced in credit markets. A strategic-disclosure incentive among debtors avoiding creditor intervention seems more dominant than the disciplining effect, suggesting how strengthening creditor rights affects power rebalancing between creditors and shareholders. (JEL G14, G15, G33, G34) Received September 21, 2021; editorial decision March 9, 2023 by Editor Isil Erel
In this paper we quantify the differences between market and regulatory assessments of bank portf... more In this paper we quantify the differences between market and regulatory assessments of bank portfolio risk, and thereby demonstrate that larger differences significantly reduce corporate lending rates. Specifically, to entice borrowers, banks reduce spreads by approximately 4.3% following a one standard deviation increase in our measure for bank asset-risk differences. This is equivalent to an interest income loss of USD 2.03 million on a loan of average size and duration. The separate effects of market and regulatory risk are much less potent. Our study reveals a disciplinary-competition effect in favor of corporate borrowers when there is information asymmetry between investors and bank regulators.
Abstract We investigate whether ratings-based capital regulation has affected the finance-growth ... more Abstract We investigate whether ratings-based capital regulation has affected the finance-growth nexus via a foreign credit channel. Using quarterly data on short to medium term real GDP growth and cross-border bank lending flows from G-10 countries to 67 recipient countries, we find that since the implementation of Basel 2 capital rules, risk weight reductions mapped to sovereign credit rating upgrades have stimulated short-term economic growth in investment grade recipients but hampered growth in non-investment grade recipients. The impact of these rating upgrades is strongest in the first year and then reverses from the third year and onwards. On the other hand, there is a consistent and lasting negative impact of risk weight increases due to rating downgrades across all recipient countries. The adverse effects of ratings-based capital regulation on foreign bank credit supply and economic growth are compounded in countries with more corruption and less competitive banking sectors and are attenuated with greater political stability.
We propose a new approach to measuring sovereign default risk. We use sovereign credit ratings an... more We propose a new approach to measuring sovereign default risk. We use sovereign credit ratings and historical default rates provided by credit rating agencies to construct a measure of ratings implied expected loss. We compare our measure of expected loss from sovereign defaults with stand-alone credit ratings and also examine its relationship with credit default swap spreads. We show that our measure is more informative for measuring sovereign risk. We reexamine the fundamental determinants of sovereign risk and find further evidence to support the debt intolerance and original sin explanations for country risk. This study contributes an improved understanding of the value of sovereign credit rating teams in assessing the long-term country risks accompanying emerging market investments.
World Scientific Studies in International Economics, Nov 30, 2017
We examine whether changes in sovereign credit assessments help to determine international bank f... more We examine whether changes in sovereign credit assessments help to determine international bank flows to emerging countries. We focus on the banking flows of G7 countries to a sample of 55 emerging market borrowers for 1995-2008. We find evidence indicating that sovereign credit rating revisions have significant and positive influences on international bank flows from developed markets even after controlling for other determinants. In addition, we find strong regional rating spillover effects. Ratings improvements in one emerging market region tends to reduce bank flows to the other regions. However, there is an exception from the Asia Pacific to Eastern Europe.
We use sign‐identified macroeconomic models to study the interaction of financial sector and sove... more We use sign‐identified macroeconomic models to study the interaction of financial sector and sovereign credit risks in Europe. We find that country‐specific financial sector bailout shocks do not generate strong international spillovers, because they primarily transfer private sector risk onto the local sovereign. By contrast, sovereign risk shocks generate substantial spillovers onto the global financial sector and for international sovereign debt markets. We conclude that any financial sector bailout policy that undermines the creditworthiness of the affected sovereign is likely to exacerbate global credit risk. Our findings highlight the unintended global consequences of country‐specific financial sector bailout programmes.
In this paper we quantify the differences between market and regulatory assessments of bank portf... more In this paper we quantify the differences between market and regulatory assessments of bank portfolio risk, and thereby demonstrate that larger differences significantly reduce corporate lending rates. Specifically, to entice borrowers, banks reduce spreads by approximately 4.3% following a one standard deviation increase in our measure for bank asset-risk differences. This is equivalent to an interest income loss of USD 2.03 million on a loan of average size and duration. The separate effects of market and regulatory risk are much less potent. Our study reveals a disciplinary-competition effect in favor of corporate borrowers when there is information asymmetry between investors and bank regulators.
We examine the effect of corporate social responsibility engagements signaled through negative en... more We examine the effect of corporate social responsibility engagements signaled through negative environmental and social (E&S) incidents on equity financing via seasoned equity offerings (SEOs) across 25 countries. The results show that negative E&S incidents significantly aggravate SEO underpricing, increasing cost of equity capital. We assess potential explanations from the perspective of corporate reputation risk and regulatory risk. We find support for both channels. Social reputation acts as a buffer against reputation risk arising from the E&S risk events while strong country-level E&S policies inflict regulatory risk to violating firms following E&S incidents leading to adverse E&S effects at SEOs. Further analysis reveals that the adverse pricing effects of firm E&S risk are driven by the social awareness of institutional and retail investors. We also find that the impact is negligible with the presence of larger blockholders. Managers appear to pre-empt the adverse effects by reducing the likelihood of equity financing in wake of negative incidents. Finally, there are rich cross-country variations in the pricing effects of E&S risk whereby common law countries and those with strong investor protection and individualistic but low power distance cultures suffer most from the adverse E&S incidents around SEOs.
We investigate the impact of macroeconomic news on sovereign credit default swap (CDS) pricing an... more We investigate the impact of macroeconomic news on sovereign credit default swap (CDS) pricing and volatility. The impact of domestic news and foreign news from China, the U.S. and the Eurozone have been examined on nineteen countries over the period Nov 2007 - Mar 2012. Furthermore, panel estimations are conducted to evaluate the impact of intra-regional and interregional spillover news on the pricing and volatility of sovereign CDS spreads. We find that there are unambiguous asymmetric news effects on sovereign CDS markets as better than expected news tend to reduce national CDS spreads, whilst worse than expected news have the opposite effects. We also report significant news spillover effects. In general, EMEA and Americas respond in opposite directions to spillover news from other regions. Whereas EMEA have same spread and volatility response pattern across all regional countries, news from the U.S. and China elicit opposite effects across EMEA on the one hand and APA and Ameri...
We examine the impact of the COVID-19 pandemic on CDS spreads of companies around the world. We f... more We examine the impact of the COVID-19 pandemic on CDS spreads of companies around the world. We find that the pandemic-induced increases in corporate CDS spreads are concentrated in firms with higher leverage, non-investment-grade rating, lower profitability, and higher stock volatility. Further analysis shows that increases in CDS spreads are smaller for firms with employee health policies in place, better corporate social responsibility performance, stronger corporate governance, and operating in industries less affected by social distancing. Lastly, our results reveal that the successful vaccine trials and national policies including income support packages, lockdown policies and health policies help to reduce corporate CDS spreads.
This paper examines how political corruption affects M&A activities. By exploiting the pu... more This paper examines how political corruption affects M&A activities. By exploiting the public enforcement of the anti-corruption campaign across different regions in China, we find in a difference-in-difference (DID) setting that the reduction in corruption increases cross-region takeover activities by 40% and deal volume more than doubles. Further analysis reveals that the reduction in market entry barriers and the decreased potential for political rent extraction are two plausible economic channels behind these real effects on corporate investments. Reduction in corruption also leads to higher bidder returns and improves post-acquisition performance. Furthermore, such a campaign significantly strengthens local economic development (higher GDP per capita growth, higher general government revenue per capita, and lower unemployment rate).
Using U.S. bank holding company data, we study the impact of the crisis liquidity programs initia... more Using U.S. bank holding company data, we study the impact of the crisis liquidity programs initiated by the U.S. Federal Reserve on bank-specific information production. We find empirical evidence that following the receipt of liquidity support there was a pervasive decrease in bank stock price informativeness that increased market synchronicity and crash risk. Our findings further suggest that these effects are mainly driven by bank participation in the Discount Window (DW) and Term Auction Facility (TAF) programs. On the bright side, we confirm that the liquidity programs served their purpose in targeting and supporting illiquid banks with low core stable funding sources through the crisis.
We analyze the channels for the cross-border propagation of sovereign credit risk in the internat... more We analyze the channels for the cross-border propagation of sovereign credit risk in the international sovereign debt market. We study sovereign credit contagion through the immediate effects of credit events as defined by CDS spread jumps on the credit spreads of other regional sovereigns and on the rest of the world. We find that such "fast and furious" contagion has been primarily a regional phenomenon, however, a global "slow-burn" spillover of credit events was also in force during the recent European debt crisis. We are able to model the protracted spillover mechanism through the effects of identified sovereign credit events on a global sovereign risk factor and time varying country-specific factor loadings.
This paper examines the change in the regulatory use of multiple credit ratings after the DoddFra... more This paper examines the change in the regulatory use of multiple credit ratings after the DoddFrank Act (Dodd-Frank). We find that post Dodd-Frank reform firms are less likely to demand a third rating, which is typically provided by Fitch. These ratings become less informative with a much weaker market impact on credit spreads for firms on opposite sides of the high yield (HY) investment grade (IG) boundary. Moreover, firms with reduced external monitoring from a third rating agency systematically manage their earnings more and have higher cash flow and sales volatilities post Dodd-Frank. Overall, the results shed light on the unintended consequences of Dodd-Frank on harming competition within the ratings industry and the quality of the corporate information environment.
This paper examines the dynamic relationship between daily stock and government bond returns of s... more This paper examines the dynamic relationship between daily stock and government bond returns of selected countries over the past decade to infer the state and progress of interfinancial market integration. We proceed to empirically investigate the influence of the European Monetary Union (EMU) on time-variations in inter-stock-bond market integration/segmentation dynamics using a two-step procedure. First, we document the downward trends in time-varying conditional correlations between stock and bond market returns in European countries, Japan and the US. Second, we investigate the causality and determinants of this interdependent relationship, in particular, whether the various macroeconomic convergence criteria associated with the EMU have played a significant role. We find that real economic integration and the reduction in currency risk have generally had the desired effect on financial integration but monetary policy integration may have created uncertain investor sentiments on the economic future of the European monetary union, thereby stimulating a flight to quality phenomenon.
The Review of Corporate Finance Studies, Mar 5, 2020
This paper examines the impact of promotion-based tournament incentives on corporate acquisition ... more This paper examines the impact of promotion-based tournament incentives on corporate acquisition performance. Measuring tournament incentives as the compensation ratio between the CEO and other senior executives, we show that acquirers with greater tournament incentives experience lower announcement returns. Further analysis shows that the negative effect is driven by the risk-seeking behavior of senior executives induced by tournament incentives. Our results are robust to alternative identification strategies. Our evidence highlights that senior executives, in addition to the CEO, play an influential role in acquisition decisions. (JEL G30,
The Review of Corporate Finance Studies, Apr 13, 2023
We analyze how creditor rights affect the nonsynchronicity of global corporate credit default swa... more We analyze how creditor rights affect the nonsynchronicity of global corporate credit default swap spreads (CDS-NS). CDS-NS is negatively related to the country-level creditor-control rights, especially to the “restrictions on reorganization” component, where creditor-shareholder conflicts are high. The effect is concentrated in firms with high investment intensity, asset growth, information opacity, and risk. Pro-creditor bankruptcy reforms led to a decline in CDS-NS, indicating lower firm-specific idiosyncratic information being priced in credit markets. A strategic-disclosure incentive among debtors avoiding creditor intervention seems more dominant than the disciplining effect, suggesting how strengthening creditor rights affects power rebalancing between creditors and shareholders. (JEL G14, G15, G33, G34) Received September 21, 2021; editorial decision March 9, 2023 by Editor Isil Erel
In this paper we quantify the differences between market and regulatory assessments of bank portf... more In this paper we quantify the differences between market and regulatory assessments of bank portfolio risk, and thereby demonstrate that larger differences significantly reduce corporate lending rates. Specifically, to entice borrowers, banks reduce spreads by approximately 4.3% following a one standard deviation increase in our measure for bank asset-risk differences. This is equivalent to an interest income loss of USD 2.03 million on a loan of average size and duration. The separate effects of market and regulatory risk are much less potent. Our study reveals a disciplinary-competition effect in favor of corporate borrowers when there is information asymmetry between investors and bank regulators.
Abstract We investigate whether ratings-based capital regulation has affected the finance-growth ... more Abstract We investigate whether ratings-based capital regulation has affected the finance-growth nexus via a foreign credit channel. Using quarterly data on short to medium term real GDP growth and cross-border bank lending flows from G-10 countries to 67 recipient countries, we find that since the implementation of Basel 2 capital rules, risk weight reductions mapped to sovereign credit rating upgrades have stimulated short-term economic growth in investment grade recipients but hampered growth in non-investment grade recipients. The impact of these rating upgrades is strongest in the first year and then reverses from the third year and onwards. On the other hand, there is a consistent and lasting negative impact of risk weight increases due to rating downgrades across all recipient countries. The adverse effects of ratings-based capital regulation on foreign bank credit supply and economic growth are compounded in countries with more corruption and less competitive banking sectors and are attenuated with greater political stability.
We propose a new approach to measuring sovereign default risk. We use sovereign credit ratings an... more We propose a new approach to measuring sovereign default risk. We use sovereign credit ratings and historical default rates provided by credit rating agencies to construct a measure of ratings implied expected loss. We compare our measure of expected loss from sovereign defaults with stand-alone credit ratings and also examine its relationship with credit default swap spreads. We show that our measure is more informative for measuring sovereign risk. We reexamine the fundamental determinants of sovereign risk and find further evidence to support the debt intolerance and original sin explanations for country risk. This study contributes an improved understanding of the value of sovereign credit rating teams in assessing the long-term country risks accompanying emerging market investments.
World Scientific Studies in International Economics, Nov 30, 2017
We examine whether changes in sovereign credit assessments help to determine international bank f... more We examine whether changes in sovereign credit assessments help to determine international bank flows to emerging countries. We focus on the banking flows of G7 countries to a sample of 55 emerging market borrowers for 1995-2008. We find evidence indicating that sovereign credit rating revisions have significant and positive influences on international bank flows from developed markets even after controlling for other determinants. In addition, we find strong regional rating spillover effects. Ratings improvements in one emerging market region tends to reduce bank flows to the other regions. However, there is an exception from the Asia Pacific to Eastern Europe.
We use sign‐identified macroeconomic models to study the interaction of financial sector and sove... more We use sign‐identified macroeconomic models to study the interaction of financial sector and sovereign credit risks in Europe. We find that country‐specific financial sector bailout shocks do not generate strong international spillovers, because they primarily transfer private sector risk onto the local sovereign. By contrast, sovereign risk shocks generate substantial spillovers onto the global financial sector and for international sovereign debt markets. We conclude that any financial sector bailout policy that undermines the creditworthiness of the affected sovereign is likely to exacerbate global credit risk. Our findings highlight the unintended global consequences of country‐specific financial sector bailout programmes.
In this paper we quantify the differences between market and regulatory assessments of bank portf... more In this paper we quantify the differences between market and regulatory assessments of bank portfolio risk, and thereby demonstrate that larger differences significantly reduce corporate lending rates. Specifically, to entice borrowers, banks reduce spreads by approximately 4.3% following a one standard deviation increase in our measure for bank asset-risk differences. This is equivalent to an interest income loss of USD 2.03 million on a loan of average size and duration. The separate effects of market and regulatory risk are much less potent. Our study reveals a disciplinary-competition effect in favor of corporate borrowers when there is information asymmetry between investors and bank regulators.
We examine the effect of corporate social responsibility engagements signaled through negative en... more We examine the effect of corporate social responsibility engagements signaled through negative environmental and social (E&S) incidents on equity financing via seasoned equity offerings (SEOs) across 25 countries. The results show that negative E&S incidents significantly aggravate SEO underpricing, increasing cost of equity capital. We assess potential explanations from the perspective of corporate reputation risk and regulatory risk. We find support for both channels. Social reputation acts as a buffer against reputation risk arising from the E&S risk events while strong country-level E&S policies inflict regulatory risk to violating firms following E&S incidents leading to adverse E&S effects at SEOs. Further analysis reveals that the adverse pricing effects of firm E&S risk are driven by the social awareness of institutional and retail investors. We also find that the impact is negligible with the presence of larger blockholders. Managers appear to pre-empt the adverse effects by reducing the likelihood of equity financing in wake of negative incidents. Finally, there are rich cross-country variations in the pricing effects of E&S risk whereby common law countries and those with strong investor protection and individualistic but low power distance cultures suffer most from the adverse E&S incidents around SEOs.
We investigate the impact of macroeconomic news on sovereign credit default swap (CDS) pricing an... more We investigate the impact of macroeconomic news on sovereign credit default swap (CDS) pricing and volatility. The impact of domestic news and foreign news from China, the U.S. and the Eurozone have been examined on nineteen countries over the period Nov 2007 - Mar 2012. Furthermore, panel estimations are conducted to evaluate the impact of intra-regional and interregional spillover news on the pricing and volatility of sovereign CDS spreads. We find that there are unambiguous asymmetric news effects on sovereign CDS markets as better than expected news tend to reduce national CDS spreads, whilst worse than expected news have the opposite effects. We also report significant news spillover effects. In general, EMEA and Americas respond in opposite directions to spillover news from other regions. Whereas EMEA have same spread and volatility response pattern across all regional countries, news from the U.S. and China elicit opposite effects across EMEA on the one hand and APA and Ameri...
We examine the impact of the COVID-19 pandemic on CDS spreads of companies around the world. We f... more We examine the impact of the COVID-19 pandemic on CDS spreads of companies around the world. We find that the pandemic-induced increases in corporate CDS spreads are concentrated in firms with higher leverage, non-investment-grade rating, lower profitability, and higher stock volatility. Further analysis shows that increases in CDS spreads are smaller for firms with employee health policies in place, better corporate social responsibility performance, stronger corporate governance, and operating in industries less affected by social distancing. Lastly, our results reveal that the successful vaccine trials and national policies including income support packages, lockdown policies and health policies help to reduce corporate CDS spreads.
This paper examines how political corruption affects M&A activities. By exploiting the pu... more This paper examines how political corruption affects M&A activities. By exploiting the public enforcement of the anti-corruption campaign across different regions in China, we find in a difference-in-difference (DID) setting that the reduction in corruption increases cross-region takeover activities by 40% and deal volume more than doubles. Further analysis reveals that the reduction in market entry barriers and the decreased potential for political rent extraction are two plausible economic channels behind these real effects on corporate investments. Reduction in corruption also leads to higher bidder returns and improves post-acquisition performance. Furthermore, such a campaign significantly strengthens local economic development (higher GDP per capita growth, higher general government revenue per capita, and lower unemployment rate).
Using U.S. bank holding company data, we study the impact of the crisis liquidity programs initia... more Using U.S. bank holding company data, we study the impact of the crisis liquidity programs initiated by the U.S. Federal Reserve on bank-specific information production. We find empirical evidence that following the receipt of liquidity support there was a pervasive decrease in bank stock price informativeness that increased market synchronicity and crash risk. Our findings further suggest that these effects are mainly driven by bank participation in the Discount Window (DW) and Term Auction Facility (TAF) programs. On the bright side, we confirm that the liquidity programs served their purpose in targeting and supporting illiquid banks with low core stable funding sources through the crisis.
We analyze the channels for the cross-border propagation of sovereign credit risk in the internat... more We analyze the channels for the cross-border propagation of sovereign credit risk in the international sovereign debt market. We study sovereign credit contagion through the immediate effects of credit events as defined by CDS spread jumps on the credit spreads of other regional sovereigns and on the rest of the world. We find that such "fast and furious" contagion has been primarily a regional phenomenon, however, a global "slow-burn" spillover of credit events was also in force during the recent European debt crisis. We are able to model the protracted spillover mechanism through the effects of identified sovereign credit events on a global sovereign risk factor and time varying country-specific factor loadings.
This paper examines the change in the regulatory use of multiple credit ratings after the DoddFra... more This paper examines the change in the regulatory use of multiple credit ratings after the DoddFrank Act (Dodd-Frank). We find that post Dodd-Frank reform firms are less likely to demand a third rating, which is typically provided by Fitch. These ratings become less informative with a much weaker market impact on credit spreads for firms on opposite sides of the high yield (HY) investment grade (IG) boundary. Moreover, firms with reduced external monitoring from a third rating agency systematically manage their earnings more and have higher cash flow and sales volatilities post Dodd-Frank. Overall, the results shed light on the unintended consequences of Dodd-Frank on harming competition within the ratings industry and the quality of the corporate information environment.
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Papers by Eliza Wu