Finance

Finance is a featured research topic at Harvard Business School.
 
Our intellectual roots are based in a long line of scholars from Robert Merton whose collaborative work on risk management and option pricing won him the Nobel Prize in Economics in 1997, to John Lintner who co-created the Capital Asset Pricing Model and made significant contributions to dividend policy, and Gordon Donaldson whose work helped shape the field of corporate finance. We strive to understand how managers and firms make value-enhancing decisions; and how financial institutions, markets, and instruments contribute to this process. Our approach to research is distinguished by its unique combination of theory, empirical analysis, mathematical modeling, and field observations at companies. 
  1. Price Dynamics in Partially Segmented Markets

    Robin Greenwood, Samuel Gregory Hanson and Gordon Y. Liao

    We develop a dynamic model of financial markets in which capital moves quickly within a given asset class, but more slowly across markets for different asset classes. In our model, most investors specialize in a single asset class such as government bonds, corporate bonds, or equities. However, a smaller number of generalist investors can flexibly allocate capital across markets, albeit only gradually. Short-run demand curves for individual asset classes are steeply downward-sloping and prices of risk in one market may be temporarily disconnected from those in others. Over the long-run, capital flows across the boundaries of asset classes and prices of risk are more closely aligned. Nonetheless, different markets are not perfectly integrated even in the long run because cross-market arbitrageur is risky. Using this framework, we show how supply shocks in one asset class are transmitted over time to other asset classes and how specialist and generalist investors trade in response. While prices of a given asset class initially overreact to a supply shock in that market, under plausible conditions, prices underreact in related markets. We explore several applications, including the design and impact of central bank asset purchase programs, and the role of corporate issuance in promoting market integration.

    Keywords: Capital Markets; Asset Pricing; Behavioral Finance;

    Citation:

    Greenwood, Robin, Samuel Gregory Hanson, and Gordon Y. Liao. "Price Dynamics in Partially Segmented Markets." Working Paper, March 2015. View Details
  2. Longbow Capital Partners

    Malcolm Baker, Samuel G. Hanson and James Weber

    Longbow Capital Partners is a value-oriented long/short hedge fund focused on stocks in the energy sector. In January 2011, Longbow had invested in NiSource, a Fortune 500 company that owns a diverse portfolio of regulated energy businesses. In late 2014, Longbow was deciding whether or not to maintain its position in NiSource. To make this decision, students must perform a discounted dividend analysis to determine the fundamental value of NiSource's stock. Students are also asked to perform a sum-of-the-parts analysis to assess the implications of NiSource's recent proposal to pursue a tax-advantaged spin-off of its pipeline business.

    Keywords: value investing; investment strategy; dividend yield; intrinsic value; dividend discount model; Master Limited Partnership; hedge fund; Energy Industry; regulation; utilities; Finance; Financial Services Industry; United States;

    Citation:

    Baker, Malcolm, Samuel G. Hanson, and James Weber. "Longbow Capital Partners." Harvard Business School Case 215-026, February 2015. View Details
  3. Corporate Investment and Stock Market Listing: A Puzzle?

    John Asker, Joan Farre-Mensa and Alexander Ljungqvist

    We investigate whether short-termism distorts the investment decisions of stock market listed firms. To do so, we compare the investment behavior of observably similar public and private firms using a new data source on private U.S. firms, assuming for identification that closely held private firms are subject to fewer short-termist pressures. Our results show that compared to private firms, public firms invest substantially less and are less responsive to changes in investment opportunities, especially in industries in which stock prices are most sensitive to earnings news. These findings are consistent with the notion that short-termist pressures distort investment decisions.

    Keywords: Private Ownership; Public Ownership; Corporate Finance;

    Citation:

    Asker, John, Joan Farre-Mensa, and Alexander Ljungqvist. "Corporate Investment and Stock Market Listing: A Puzzle?" Review of Financial Studies 28, no. 2 (February 2015): 342–390. View Details
  4. Financing Payouts

    Joan Farre-Mensa, Roni Michaely and Martin Schmalz

    Despite the obvious interest in payout policy, no paper to date has systematically analyzed how payouts are funded, perhaps because the answer might have appeared just too obvious: payouts are funded with free cash flow—at least over long enough time periods. In stark contrast to this commonly held view, we find that firms rely on the capital markets to finance a third of aggregate payouts, mainly with debt but also with equity. Such "financed payouts" are widespread, persistent, prevalent both among dividend-paying and repurchasing firms, and large in magnitude. Standard interpretations of agency or signaling theories are unable to explain this behavior. We argue, however, that our findings are consistent with a reinterpretation of ideas related to agency conflicts and a holistic view of corporate financial strategy that examines payout and capital structure decisions jointly.

    Keywords: Payout policy; financing decisions; debt issues; equity issues; capital structure; Capital Structure; Decision Making; Financing and Loans; Corporate Finance;

    Citation:

    Farre-Mensa, Joan, Roni Michaely, and Martin Schmalz. "Financing Payouts." Harvard Business School Working Paper, No. 15-049, December 2014. View Details
  5. Return on Political Investment in the American Jobs Creation Act of 2004

    Hui Chen, Katherine Gunny and Karthik Ramanna

    Prior literature raises a "puzzle" of high rates of return on corporate political investment, but evidence for this puzzle is largely descriptive in nature. We exploit the setting of the American Jobs Creation Act's passage in 2004 to provide more robust estimates of political returns based on instrumentation in a two-stage regression model. We find for the median sample firm that an increase of $1 million in lobbying spending is associated with about $32.35 million in taxes saved. These estimates, while consistent with a high-returns "puzzle," are nearly an order of magnitude lower than those previously reported via descriptive methods.

    Keywords: Accounting; Business and Government Relations; Corporate Finance; United States;

    Citation:

    Chen, Hui, Katherine Gunny, and Karthik Ramanna. "Return on Political Investment in the American Jobs Creation Act of 2004." Harvard Business School Working Paper, No. 15-050, December 2014. View Details
  6. Barclays Bank, 2008

    Lucy White, Steve Burn-Murdoch and Jerome Lenhardt

    In the midst of the financial crisis, Barclays (the world's 4th largest bank by assets) is forced by UK regulators to raise more capital. Should it take up the UK government's offer to invest, or take funding from investors from the Middle East? Students may price the two deals to determine which is more expensive, and must decide whether avoiding the constraints of government ownership is worth the extra cost.

    Keywords: government and business; option contract; corporate finance; finance; bank capital; bank regulation; Finance; Banking Industry; Europe; North and Central America;

    Citation:

    White, Lucy, Steve Burn-Murdoch, and Jerome Lenhardt. "Barclays Bank, 2008." Harvard Business School Case 215-027, October 2014. View Details
  7. Sovereigns, Upstream Capital Flows and Global Imbalances

    Laura Alfaro, Sebnem Kalemli-Ozcan and Vadym Volosovych

    We construct measures of net private and public capital flows for a large cross-section of developing countries considering both creditor and debtor side of the international debt transactions. Using these measures, we demonstrate that sovereign-to-sovereign transactions account for upstream capital flows and global imbalances. Specifically, we find (1) international net private capital flows (inflows minus outflows of private capital) are positively correlated with countries' productivity growth; (2) net sovereign debt flows (government borrowing minus reserves) are negatively correlated with growth only if net public debt is financed by another sovereign; (3) net public debt financed by private creditors is positively correlated with growth; and (4) public savings are strongly positively correlated with growth, whereas the correlation between private savings and growth is flat and statistically insignificant. These empirical facts contradict the conventional wisdom and constitute a challenge for the existing theories on upstream capital flows and global imbalances.

    Keywords: current account; aid/government debt; reserves; puzzles; productivity; Sovereign Finance; Developing Countries and Economies; Macroeconomics;

    Citation:

    Alfaro, Laura, Sebnem Kalemli-Ozcan, and Vadym Volosovych. "Sovereigns, Upstream Capital Flows and Global Imbalances." Journal of the European Economic Association 12, no. 5 (October 2014): 1240–1284. (Also NBER Working Paper 17396. Online Appendix. See International capital flows database for the data on measures of net private and public capital flows for a large cross-section of developing countries.) View Details
  8. Good Cop, Bad Cop: Complementarities Between Debt and Equity in Disciplining Management

    Alexander Guembel and Lucy White

    In this paper we examine how the quantity of information generated about firm prospects can be improved by splitting a firm's cash flow into a "safe" claim (debt) and a "risky" claim (equity). The former, being relatively insensitive to upside risk, provides a commitment to shut down the firm in the absence of good news. This commitment provides the latter a greater incentive to collect information than a monitor holding the aggregate claim would have. Thus debt and equity are shown to be complementary instruments in firm finance. We show that stock markets can play a useful role in transmitting information from equity to debt holders. This provides a novel argument as to why information contained in stock prices affects the real value of a corporation. It also allows us to make empirical predictions regarding the relation between shareholder dispersion, market liquidity, and capital structure.

    Keywords: Information; Borrowing and Debt; Equity; Corporate Finance;

    Citation:

    Guembel, Alexander, and Lucy White. "Good Cop, Bad Cop: Complementarities Between Debt and Equity in Disciplining Management." Journal of Financial Intermediation 23, no. 4 (October 2014): 541–569. View Details
  9. International Trade, Multinational Activity, and Corporate Finance

    C. Fritz Foley and Kalina Manova

    An emerging new literature brings unique ideas from corporate finance to the study of international trade and investment. Insights about differences in the development of financial institutions across countries, the role of financial constraints, and the use of internal capital markets are proving central in understanding international economics. The ability to access financial capital to pay fixed and variable costs affects choices firms make regarding export entry and operations, and, as a consequence, influence aggregate trade patterns. Financial frictions and the use of internal capital markets shape decisions that multinationals make regarding production locations, integration, and corporate governance. This article surveys this recent research with the goal of highlighting the main themes it explores, the key results it establishes, and the leading open questions it raises.

    Keywords: Multinational Firms and Management; Trade; Corporate Finance;

    Citation:

    Foley, C. Fritz, and Kalina Manova. "International Trade, Multinational Activity, and Corporate Finance." NBER Working Paper Series, No. 20634, October 2014. View Details
  10. The Road to Kolkata: NH-34 and PPP in India

    Arthur I Segel, Siddharth Yog and Ben Eppler

    In 2014, Arjun Dhawan (MBA 2004), President of HCC Concessions, is working toward the completion of his largest road development project yet. The route, a 250-km stretch leading from the critical eastern Indian port of Kolkata into the interior of the province of West Bengal, is a prime example of both the benefits and the drawbacks of Public-Private Partnerships in the Indian transportation sector. Despite delays and political pressure, HCC Concessions has nearly finished building the road, and now is receiving offers to purchase the project's equity.

    Keywords: india; real estate; infrastructure; roads; transportation; finance; project finance; Property; Infrastructure; Finance; Construction Industry; Financial Services Industry; India;

    Citation:

    Segel, Arthur I., Siddharth Yog, and Ben Eppler. "The Road to Kolkata: NH-34 and PPP in India." Harvard Business School Case 215-007, September 2014. (Revised December 2014.) View Details
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