I am the Mark Kingdon Associate Professor of Business Administration in the Finance Unit at Harvard Business School. My research concentrates on the intersection of corporate finance and industrial organization.
Published and Forthcoming Papers:
"Deposit Competition and Financial Fragility: Evidence from the US Banking Sector" [with Ali Hortacsu and Gregor Matvos, American Economic Review, 2017]
Abstract: We develop and estimate an empirical model of the U.S. banking sector using a new data set covering the largest U.S. banks over the period 2002-2013. Our model incorporates insured depositors and run-prone uninsured depositors who have rich preferences over differentiated banks. Banks compete for deposits in the spirit of Matutes and Vives (1996) and can endogenously default. We estimate demand for uninsured deposits and find that it declines with banks' financial solvency, which is not the case for insured deposits demand. We calibrate the supply side of the model and find that the deposit elasticity to bank default is large enough to introduce the possibility of multiple equilibria, suggesting that banks can be very fragile. We study how competition for deposits among banks affects the feedback between bank distress and deposits, and transmits shocks from one bank to the system without direct links between banks. Last, we use our model to analyze the proposed bank regulatory changes and find that some regulations could exacerbate the instability of the system.
"The Market for Financial Adviser Misconduct" [with Gregor Matvos and Amit Seru, Journal of Political Economy, 2019]
Abstract: We construct a novel database containing the universe of financial advisers in the United States from 2005 to 2015, representing approximately 10% of employment of the finance and insurance sector. Roughly 7% of advisers have misconduct records. Prior offenders are five times as likely to engage in new misconduct as the average financial adviser. Firms discipline misconduct: approximately half of financial advisers lose their job after misconduct. The labor market partially undoes firm-level discipline: of these advisers, 44% are reemployed in the financial services industry within a year. Reemployment is not costless. Following misconduct, advisers face longer unemployment spells, and move to less reputable firms, with a 10% reduction in compensation. Additionally, firms that hire these advisers also have higher rates of prior misconduct themselves. We find similar results for advisers of dissolved firms, in which all advisers are forced to find new employment independent of past misconduct or performance. Firms that persistently engage in misconduct coexist with firms that have clean records. We show that differences in consumer sophistication may be partially responsible for this phenomenon: misconduct is concentrated in firms with retail customers and in counties with low education, elderly populations, and high incomes. Our findings suggest that some firms “specialize” in misconduct and cater to unsophisticated consumers, while others use their reputation to attract sophisticated consumers.
"Brokers vs. Retail Investors: Conflicting Interests and Dominated Products" [The Journal of Finance, 2019]
Abstract: I study how brokers distort household investment decisions. Using a novel convertible bond dataset, I find that consumers often purchase dominated bonds - cheap and expensive of otherwise identical bonds coexist in the market. Brokers are incentivized to sell the inferior bonds, earning two-times greater fees for selling dominated bonds on average. I develop and estimate a broker intermediated search model that rationalizes this behavior and quantifies the distortions in these markets. In the model consumer search is endogenously directed according to the incentives of brokers and brokers price discriminate based on a consumer's level of sophistication. The model estimates indicate that costly search is a key friction in retail financial markets, but the effects of search costs are compounded when brokers are incentivized to direct the search of consumers towards high fee inferior products.
"When Harry Fired Sally: The Double Standard in Punishing Misconduct" [with Gregor Matvos and Amit Seru; Journal of Political Economy, 2022]
Abstract: We examine gender discrimination in the financial advisory industry. We study a less salient mechanism for discrimination, firm discipline following missteps. There are substantial differences in the punishment of misconduct across genders. Although both female and male advisers are disciplined for misconduct, female advisers are punished more severely. Following an incidence of misconduct, female advisers are 20% more likely to lose their jobs and 30% less likely to find new jobs relative to male advisers. Females face harsher punishment despite engaging in less costly misconduct and despite a lower propensity towards repeat offenses. Relative to women, men are three times as likely to engage in misconduct, are twice as likely to be repeat offenders, and engage in misconduct that is 20% costlier. Evidence suggests that the observed behavior is not driven by productivity differences across advisers. Rather, we find supporting evidence for taste-based discrimination. For females, a disproportionate share of misconduct complaints is initiated by the firm, instead of customers or regulators. Moreover, there is significant heterogeneity among firms. Firms with a greater percentage of male executives/owners at a given branch tend to punish female advisers more severely following misconduct and also tend to hire fewer female advisers with past record of misconduct.
"Recovering Investor Expectations from Demand for Index Funds" [with Alex MacKay and Hanbin Yang; Review of Economic Studies, 2022]
Abstract: We use a revealed-preference approach to estimate investor expectations of stock market returns. Using data on demand for index funds that follow the S&P 500, we develop and estimate a model of investor choice to flexibly recover the time-varying distribution of expected returns. Despite the fact that they are generated from a different method (realized choices) and a different population, our quarterly estimates of investor expectations are positively and significantly correlated with the leading surveys used to measure stock market expectations. Our estimates suggest that investor expectations are heterogeneous, extrapolative, and persistent. Following a downturn, investors become more pessimistic on average, but there is also an increase in disagreement among participating investors. Our analysis is facilitated by the prevalence of “leveraged” funds, i.e., funds that provide the investor with a menu over leverage. The menu of choices allows us to separately estimate expectations and risk aversion. We estimate that the availability of these funds provides investors with significant (ex ante) consumer surplus.
"The Cross Section of Bank Value" [with Stefan Lewellen and Adi Sunderam; Review of Financial Studies, 2022; Winner of the Douglas D. Evanoff Best Paper Award at the Chicago Financial Institutions Conference]
Abstract: We study the determinants of value creation within U.S. commercial banks. We begin by constructing two new measures of bank productivity: one focused on deposit-taking productivity and one focused on asset productivity. We then use these measures to evaluate the cross-section of bank value. Both productivity measures are strongly value-relevant, with variation in banks' deposit productivity responsible for the majority of variation in bank value. We also find evidence consistent with synergies between deposit-taking and lending activities: banks with high deposit productivity have high asset productivity, a relationship driven by the tendency of deposit-productive banks to hold illiquid loans. Our results suggest that both sides of the balance sheet contribute meaningfully to bank value creation, with the liability side playing a primary role
"The Value of Intermediation in the Stock Market" [with Marco Di Maggio and Francesco Franzoni, Journal of Financial Economics; 2021]
Abstract: We estimate a structural model of broker choice to quantitatively decompose the value that institutional investors attach to broker services. Studying over 300 million institutional equity trades, we find that investors are sensitive to both explicit and implicit trading costs and are willing to pay a premium for access to formal and informal research. Formal and informal research account for roughly half of the value generated by brokers. Lastly, we use our model to investigate soft-dollar arrangements, where research and execution services are bundled, and find that such arrangements allow hedge funds and mutual funds to underreport management fees by 10%.
"Conflicting Interests and the Effect of Fiduciary Duty — Evidence from Variable Annuities" [with Shan Ge and Johnny Tang; Forthcoming at the Review of Financial Studies]
Abstract: We examine the drivers of variable annuity sales and the impact of a proposed regulatory change. Variable annuities are popular retirement products with over $2 trillion in assets in the United States. Insurers typically pay brokers a commission for selling variable annuities that ranges from 0% to over 10% of investors' premium payments. Brokers earn higher commissions for selling inferior annuities, in terms of higher expenses and more ex-post complaints. Our results indicate that variable annuity sales are roughly six times more sensitive to brokers' financial interests than investors'. To help limit conflicts of interest, the Department of Labor proposed a rule in 2016 that would hold brokers to a fiduciary standard when dealing with retirement accounts. We find that after the proposed fiduciary rule, the sales of high-expense variable annuities fell by 52% as sales became more sensitive to expenses and insurers increased the relative availability of low-expense products. Based on our structural model estimates, investor welfare improved as a result of the fiduciary rule under conservative assumptions.
"Arbitration with Uninformed Consumers" [with Gregor Matvos and Amit Seru, NBER WP 25150; Conditionally Accepted the Review of Economic Studies]
Abstract: We examine whether firms have an informational advantage in selecting arbitrators in consumer arbitration, and the impact of the arbitrator selection process on outcomes. We collect a novel data set containing roughly 9,000 arbitration cases in securities arbitration. Securities disputes present a good laboratory: the selection mechanism is similar to other major arbitration forums; arbitration is mandatory for all disputes, eliminating selection concerns; and the parties choose arbitrators from a randomly generated list. We first document that some arbitrators are systematically industry friendly while others are consumer friendly. Firms appear to utilize this information in the arbitrator selection process. Despite a randomly generated list of potential arbitrators, industry-friendly arbitrators are forty percent more likely to be selected than their consumer friendly counterparts. Better informed firms and consumers choose more favorable arbitrators. We develop and calibrate a model of arbitrator selection in which, like the current process, both the informed firms and uninformed consumers have control over the selection process. Arbitrators compete against each other for the attention of claimants and respondents. The model allows us to interpret our empirical facts in equilibrium and to quantify the effects of changes to the current arbitrator selection process on consumer outcomes. Competition between arbitrators exacerbates the informational advantage of firms in equilibrium resulting in all arbitrators slanting towards being industry friendly. Evidence suggests that limiting the respondent's and claimant's inputs over the arbitrator selection process could significantly improve outcomes for consumers.
"What Drives Variation in Investor Portfolios? Evidence from Retirement Plans" [with Alex MacKay and Hanbin Yang; NBER WP 29604]
Abstract: We study empirical patterns in investment behavior using a comprehensive data set of defined contribution plans. Using plan-level portfolio allocation data for the near universe of 401(k) plans over the period 2009-2019, we document substantial differences in investment behavior across plans. Plans with wealthier and more educated participants tend to have higher equity exposure while plans with more retirees and minorities tend to have lower equity exposure. These patterns cannot be explained by differences in 401(k) menus or participation costs. To help interpret these facts, we use a revealed preference approach to estimate investors' expectations of stock market returns and risk aversion, where we allow investors to have heterogeneous risk aversion and subjective and potentially biased beliefs. We find that there is substantial variation in both beliefs and risk aversion across investors and over time, and that both sources of variation help explain investors' portfolio decisions. We also provide new evidence to understand how investors form beliefs. We find that investors extrapolate beliefs from past fund returns even when they initially allocate portfolios in new plans. We also find that investors extrapolate beliefs about the market from the past performance of their employer, which suggests that investor experience helps shape beliefs.
"How Do Investors Value ESG?" [with Malcolm Baker and Suproteem Sarkar; NBER WP 30708 ]
Abstract: Environmental, social, and governance (ESG) objectives have risen to near the top of the agenda for corporate executives and boards, driven in large part by their perceptions of shareholder interest. We quantify the value that shareholders place on ESG using a revealed preference approach, where shareholders pay higher fees for ESG-oriented index funds in exchange for their financial and non-financial benefits. We find that investors are willing, on average, to pay 20 basis points more per annum for an investment in a fund with an ESG mandate as compared to an otherwise identical mutual fund without an ESG mandate, suggesting that investors as a group expect commensurately higher pre-fee, gross returns, either financial or non-financial, from an ESG mandate. Our point estimate has risen from 9 basis points in 2019 when our sample begins to as much as 28 basis points in 2022. When we incorporate the possibility that investors are willing to accept lower financial returns in exchange for the psychic and societal benefits of ESG, when we consider that the holdings of ESG and non-ESG index funds overlap, when we measure the ESG ratings of these holdings, and when we focus on 401(k) participants who report being concerned about climate change or who work in industries with lower levels of emissions, we find that the implicit value that investors place on ESG stocks is higher still. A simple model of supply suggests that the large majority of these benefits accrue to investors and firms, with intermediaries capturing 5.9 basis points in fees, half of which reflect higher markups..
"Adjusting Economic Measures for Health: Is the Business Cycle Countercyclical?" [with Casey Mulligan and Tomas Philipson, NBER WP 19058]
Abstract: Many national accounts of economic output and prosperity, such as gross domestic product (GDP) or net domestic product (NDP), offer an incomplete picture by ignoring, for example, the value of leisure, home production, and the value of health. Previous discussed shortcomings of such accounts have focused on how unobserved dimensions affect GDP levels but not their cyclicality, which affects the measurement of the business cycle. This paper proposes a new methodology to measure economic fluctuations that incorporates monetized changes in health of the population in the United States and globally during the past 50 years. In particular, we incorporate in GDP the dollar value of mortality, treating it as depreciation in human capital analogous to how net domestic product (NDP) treats depreciation of physical capital. Because mortality tends to be pro?cyclical, we find that adjusting for mortality reduces the measured deviations of GDP from trend during the past 50 years by about 30% both in the United States and internationally.
"Non-Adherence in Health Care: A Positive and Normative Analysis" [with Tomas Philipson, NBER WP 20330]
Abstract: Non-adherence in health care results when a patient does not initiate or continue care that has been recommended by a provider. Previous researchers have identified non-adherence as a major source of waste in US healthcare, totaling approximately 2.3% of GDP, and have proposed a plethora of interventions to improve adherence. However, little explicit analysis exists in health economics of the dynamic demand behavior that drives non-adherence. We argue that while providers may be more informed about the population-wide effects of treatments, patients are more informed about their individual treatment effect. We interpret a patient's adherence decision as an optimal stopping problem where patients learn the value of a treatment through experience. Our positive analysis derives an "adherence survival function" and shows how various observable factors affect adherence. Our normative analysis derives the efficiency effects of non-adherence, the conditions under which adherence is too high or too low, and why many common interventions aimed at raising adherence produce indeterminate welfare effects. We calibrate these welfare effects for one of the largest US drug categories, cholesterol reducing drugs. Contrary to frequent normative claims of under-adherence, our estimates suggest that the ex-post efficiency loss from over-adherence is over 80% larger than from under-adherence.
"International Health Economics" [with Tomas Philipson, NBER WP 19280]
Abstract: Economists have paid little attention to interactions between domestic health care economies. However, the growth in domestic health care sectors is often attributed to medical innovations whose returns are earned worldwide. Due to the public-goods nature of providing world returns, domestic health care reimbursement policies will underprovide returns to innovation and a given country's profit provision will depend negatively on those of others. We estimate the degree to which national reimbursements are strategic substitutes in this manner and the implied indeterminate effects on world returns and innovation from growth in emerging markets.