Assistant Professor of Business Administration
Adi Sunderam is an assistant professor of business administration in the Finance Unit, where he teaches Finance II in the MBA required curriculum. In 2009 and 2010, he served in the U.S. Treasury Department as a special assistant and liaison to the White House National Economic Council.
Professor Sunderam's research interests are in corporate finance, asset pricing, and financial intermediation. His recent work focuses on the organization of financial markets and its effect on asset prices and corporate investment.
Professor Sunderam holds a Ph.D. in business economics and an A.B. in computer science and economics, both from Harvard University.
Frictions in Shadow Banking: Evidence from the Lending Behavior of Money Market Funds
We document the consequences of money market fund risk taking during the European sovereign debt crisis. Using a novel data set of security-level holdings of prime money market funds, we show that funds with large exposures to risky Eurozone banks suffered significant outflows between June and August 2011. Due to credit market frictions, these outflows have significant spillover effects on other firms: non-European issuers that typically rely on these funds raised less financing in this period. The results are not driven by issuers' riskiness or exposure to Europe: for the same issuer, money market funds with greater exposure to Eurozone banks decrease their holdings more than other funds. We show that relationships are important in short-term credit markets so that these spillover effects cannot be seamlessly offset, even though issuers are large, highly rated firms. Our results illustrate that instabilities associated with money market funds persist despite recent changes to the regulations governing them.
Keywords: Investment Funds;
The Growth and Limits of Arbitrage: Evidence from Short Interest
We develop a novel methodology to infer the amount of capital allocated to quantitative equity arbitrage strategies. Using this methodology, which exploits time-variation in the cross section of short interest, we document that the amount of capital devoted to value and momentum strategies has grown significantly since the late 1980s. We provide evidence that this increase in capital has resulted in lower strategy returns. However, consistent with theories of limited arbitrage, we show that strategy-level capital flows are influenced by past strategy returns as well as strategy return volatility, and that arbitrage capital is most limited during times when strategies perform best. This suggests that the growth of arbitrage capital may not completely eliminate returns to these strategies.
Are There Too Many Safe Securities? Securitization and the Incentives for Information Production
We present a model that helps explain several past collapses of securitization markets. Originators issue too many informationally insensitive securities in good times, blunting investor incentives to become informed. The resulting endogenous scarcity of informed investors exacerbates primary market collapses in bad times. Inefficiency arises because informed investors are a public good from the perspective of originators. All originators benefit from the presence of additional informed investors in bad times, but each originator minimizes his reliance on costly informed capital in good times by issuing safe securities. Our model suggests regulations that limit the issuance of safe securities in good times.
The Real Consequences of Market Segmentation
We study the real effects of market segmentation due to credit ratings using a matched sample of firms just above and just below the investment-grade cutoff. These firms have similar observables, including average investment rates. However, flows into high-yield mutual funds have an economically significant effect on the issuance and investment of the speculative-grade firms relative to their matches, especially for firms likely to be financially constrained. The effect is associated with the discrete change in label from investment-grade to speculative-grade, not with changes in continuous measures of credit quality. We do not find similar effects at other rating boundaries.
Measurement and Metrics;
The Variance of Non-Parametric Treatment Effect Estimators in the Presence of Clustering
Non-parametric estimators of treatment effects are often applied in settings where clustering may be important. We provide a general methodology for consistently estimating the variance of a large class of non-parametric estimators, including the simple matching estimator, in the presence of clustering. Software for implementing our variance estimator is available in Stata.
Keywords: treatment effects;
Fiscal Risk and the Portfolio of Government Programs
This paper proposes a new approach to social cost-benefit analysis using a model in which a benevolent government chooses risky projects in the presence of market failures and tax distortions. The government internalizes market failures and therefore perceives project payoffs differently than do individual private actors. This gives it a "social risk management" motive -- projects that generate social benefits are attractive, particularly if those benefits are realized in bad economic states. However, because of tax distortions, government financing is costly, creating a "fiscal risk management" motive. Government projects that require large tax-financed outlays are unattractive, particularly if those outlays tend to occur in bad economic times. At the optimum, the government trades off its social and fiscal risk management motives. Frictions in government financing create interdependence between two otherwise unrelated government projects. As in the theory of portfolio choice, the fiscal risk of a project depends on how its fiscal costs covary with the fiscal costs of the government's overall portfolio of projects. This interdependence means that individual projects should not be evaluated in isolation.
Keywords: Risk Management;
Government and Politics;
The Rise and Fall of Securitization
The rise and fall of nontraditional securitizations—collateralized debt obligations and mortgage-backed securities backed by nonprime loans—played a central role in the financial crisis. Little is known, however, about the factors that drove the pre-crisis surge in investor demand for these products. Examining insurance companies' and mutual funds' holdings of fixed income securities, we find evidence suggesting that both agency problems and neglected risks played an important role in driving investor demand for nontraditional securitizations prior to crisis. We also use our holdings data to shed light on the factors that drove the dramatic collapse of securitization markets beginning in mid-2007. Contrary to conventional crisis narratives, we find little evidence of widespread fire sales. Instead, our evidence is more consistent with the idea that a self-amplifying buyers' strike drove the dramatic collapse of securitization markets.
Keywords: Debt Securities;
Money Creation and the Shadow Banking System
Many explanations for the rapid growth of the shadow banking system in the mid-2000s focus on money demand. This paper asks whether the short-term liabilities of the shadow banking system behave like money. We first present a simple model where households demand money services, which are supplied by three types of claims: deposits, Treasury bills, and asset-backed commercial paper (ABCP). The model provides predictions for the price and quantity dynamics of these claims, as well as the behavior of the banking system (in terms of issuance) and the monetary authority (in terms of open market operations). Consistent with the model, the empirical evidence suggests that the shadow banking system does respond to money demand. An extrapolation of our estimates would suggest that heightened money demand could explain up to approximately 1/2 of the growth of ABCP in the mid-2000s.
Keywords: Banks and Banking;
Governing Rules, Regulations, and Reforms;
Demand and Consumers;
Concentration in Mortgage Lending, Refinancing Activity, and Mortgage Rates
We present evidence that high concentration in local mortgage lending reduces the sensitivity of mortgage rates and refinancing activity to mortgage-backed security (MBS) yields. A decrease in MBS yields is typically associated with greater refinancing activity and lower rates on new mortgages. However, this effect is dampened in counties with concentrated mortgage markets. We isolate the direct effect of mortgage market concentration and rule out alternative explanations based on borrower, loan, and collateral characteristics in two ways. First, we use a matching procedure to compare high- and low-concentration counties that are very similar on observable characteristics and find similar results. Second, we examine counties where concentration in mortgage lending is increased by bank mergers. We show that within a given county, sensitivities to MBS yields decrease after a concentration-increasing merger. Our results suggest that the effectiveness of housing as a monetary policy transmission channel varies in both the time series and the cross section. Increasing concentration by one standard deviation above the mean reduces the overall impact of a decline in MBS yields by approximately 50%.
An Evaluation of Money Market Fund Reform Proposals
U.S. money market mutual funds (MMFs) are an important source of dollar funding for global financial institutions, particularly those headquartered outside the U.S. MMFs proved to be a source of considerable instability during the financial crisis of 2007-2009, resulting in extraordinary government support to help stabilize the funding of global financial institutions. In light of the problems that emerged during the crisis, a number of MMF reforms have been proposed, which we analyze in this paper. We assume that the main goal of MMF reform is safeguarding global financial stability. In light of this goal, reforms should reduce the ex ante incentives for MMFs to take excessive risk and increase the ex post resilience of MMFs to system-wide runs. Our analysis suggests that requiring MMFs to have subordinated capital buffers could generate significant financial stability benefits. Subordinated capital provides MMFs with loss absorption capacity, lowering the probability that an MMF suffers losses large enough to trigger a run, and reduces incentives to take excessive risks. Other reform alternatives based on market forces, such as converting MMFs to a floating NAV, may be less effective in protecting financial stability. Our analysis sheds light on the fundamental tensions inherent in regulating the global shadow banking system.
Keywords: Risk Management;
Balance and Stability;
Inflation Bets or Deflation Hedges? The Changing Risks of Nominal Bonds
The covariance between U.S. Treasury bond returns and stock returns has moved considerably over time. While it was slightly positive on average in the period 1953–2009, it was unusually high in the early 1980s and negative in the 2000s, particularly in the downturns of 2000–2002 and 2007–2009. This paper specifies and estimates a model in which the nominal term structure of interest rates is driven by four state variables: the real interest rate, temporary and permanent components of expected inflation, the "nominal-real covariance" of inflation, and the real interest rate with the real economy. The last of these state variables enables the model to fit the changing covariance of bond and stock returns. Log bond yields and term premia are quadratic in these state variables, with term premia determined by the nominal-real covariance. The concavity of the yield curve―the level of intermediate-term bond yields, relative to the average of short- and long-term bond yields―is a good proxy for the level of term premia. The nominal-real covariance has declined since the early 1980s, driving down term premia.
Keywords: Inflation and Deflation;
Internet Appendix for "Inflation Bets or Deflation Hedges? The Changing Risks of Nominal Bonds"
Leader Bank, N.A.
Keywords: Banking Industry;
North and Central America;
Scharfstein, David, Adi Sunderam, and Hafiz Chagani. "Leader Bank, N.A." Harvard Business School Case 214-076, January 2014.
Lending Club: Time to Join?
Keywords: North and Central America;
Scharfstein, David, Adi Sunderam, John Ference, and Philip Roane. "Lending Club: Time to Join?" Harvard Business School Case 214-046, January 2014.
Hideo Seto, the recently appointed chairman of the investment committee of the Enterprise Turnaround Initiative Corporation, must decide whether to push JAL group, Japan's largest airline, into bankruptcy or to act as a sponsor in an out-of-court restructuring. The bankruptcy of JAL would be the largest ever for an industrial firm in Japan's history. The case introduces the mechanics of bankruptcy, the tradeoff between out-of-court restructuring and bankruptcy, and the costs of financial distress. At the level of public policy, the case also serves as a useful backdrop to discuss the role of bankruptcy in the efficient functioning of the economy, and the related comparison between Japan and the U.S. in terms of both the bankruptcy code and the cultural attitudes toward corporate restructuring. This case can fit into an introductory course in a module on capital structure and the tradeoff between the costs and benefits of debt or in an advanced corporate restructuring course in a module on the effect of different legal and cultural environments on bankruptcy proceedings.
costs of financial distress;
Baker, Malcolm, Adi Sunderam, Nobuo Sato, and Akiko Kanno. "Restructuring JAL."
Harvard Business School Case 214-055, November 2013.
To be used as an aid in teaching the Assured Guaranty case, #213100.
Financial Services Industry;
Greenwood, Robin, Adi Sunderam, and Jared Dourdeville. "Assured Guaranty.
" Harvard Business School Teaching Note 213-131, June 2013.
Assured Guaranty (CW)
Greenwood, Robin, Adi Sunderam, and Jared Dourdeville. "Assured Guaranty (CW).
" Harvard Business School Spreadsheet Supplement 213-724, March 2013.
Nate Katz at Yokun Ridge Capital Management is evaluating an investment in Assured Guaranty, a municipal bond insurance company that is trading at a discount to book value.
Financial Services Industry;
Greenwood, Robin, Adi Sunderam, and Jared Dourdeville. "Assured Guaranty."
Harvard Business School Case 213-100, February 2013.