Affect Market Efficiency Research Articles

The Mechanisms of Voting Efficiency

In the wake of the financial crisis, shareholders are increasingly relied upon to monitor directors. But while much has been written about directors’ flawed judgments, remarkably little is known about shareholders’ ability to make accurate judgments. What determines whether shareholders make the right decision when asked to vote on, say, a merger? The Article takes a novel approach to this question by drawing an analogy between corporate voting and another system for aggregating information on estimated values: stock trading. Using insights on stock market efficiency, the Article makes three contributions to our understanding of voting efficiency. First, the Article identifies and explores four key mechanisms of voting efficiency: (1) informed voting, which implies that shareholders have some information upon which to base their voting decisions; (2) rational voting, which implies that such information is processed in a rational, unbiased way; (3) independent voting, which implies that each shareholder arrives at a judgment by making use of his or her personal cognitive skills; and (4) sincere voting, which implies that shareholders vote with a view to furthering the common interest of maximizing shareholder value rather than their own private interests. Second, the Article shows that share trading, proxy solicitation, and vote buying can usefully be viewed as arbitrage techniques that reallocate voting power in the hands of shareholders with superior information and processing skills, and with appropriate incentives. By reducing information asymmetry, arbitrage techniques potentially play an important role in improving voting efficiency. In practice, however, they are subject to cost constraints as well as legal constraints. The limits of voting arbitrage are significant, and affect voting efficiency much in the same way as limits of securities arbitrage affect market efficiency. Third and finally, the Article analyzes two issues that are currently being studied by the U.S. Securities and Exchange Commission and policymakers around the world: voting without corresponding financial interest (“empty voting”) and the major influence of proxy advisers. By showing that these issues each involve a trade off between the various mechanisms of voting efficiency, their costs and benefits are brought into sharper focus. Several policy options are then presented to mitigate the costs while fostering the benefits.

Short selling regulation after the financial crisis – First principles revisited

This article examines the recent regulatory developments with regard to short selling. Short selling regulation is an important factor in firm governance because it affects the way in which firms are subject to market discipline. We begin with a comprehensive compilation of emergency restrictions on short selling adopted in the current crisis. Because of the tendency of some regulators to retain certain restrictions permanently, it is important to understand the fundamental legal and economic arguments regarding short selling. These arguments have at their core the question of whether there exists a market failure. The available evidence on balance suggests that short selling restrictions hamper the price discovery process. Also, while regulations against market abuse are required, it is an ineffective detour to pursue the goal of fair markets through the regulation of short selling. Based on these arguments, the article evaluates the approaches taken by the U.S. and U.K. regulators, who play a leading part in the current movement towards more comprehensive short selling regulation. The U.S. SEC’s recently adopted rules do not seem to bring much added value and will presumably affect market efficiency in the negative. First principles suggest a somewhat more positive stance on the SEC’s proposal for a circuit breaker rule and the U.K. FSA’s proposed disclosure approach, though both are subject to caveats. We also highlight some central questions for future research

Nonlinear time series analysis on the offer behaviors observed in an electricity market

In electricity markets where supply and demand drives the price for the purchase and sale of electricity, generating firms change capacity for various reasons including load level, policy, and varying market conditions. These types of fluctuating production patterns can result in the reduction of market efficiency. In an inefficient market, where the price for electricity exceeds marginal cost, the locational marginal price (LMP) is often used to measure market efficiency. Stochastically driven changes in the market are captured by this approach, however, these random changes (frequently observed in efficient markets as well) do not affect market efficiency in the long run. Conversely, a slow, consistent change is not captured by the snap-shot approach and affects the efficiency significantly. Therefore, it is necessary to construct an algorithm that captures only consistent changes that truly affect market efficiency. Fractal analysis can characterize a price behavior in the electricity markets because the price exhibits a self-similarity. 1 1 A self-similar object is exactly or approximately similar to a part of itself. Once a system undergoes a change, the fractal dimension of the system reflects the change. In this paper, an approach using nonlinear time series analysis is proposed and tested on actual offer behavior observed in the electricity markets in the United States.

Market Efficiency in Emerging Markets: Does the Legal System Matter?

This paper investigates the question of market efficiency in a sample of thirty-four emerging markets with different legal systems. We use both dollar and local currency returns to examine whether exchange rate effects can improve our understanding of the information flows in these capital markets. Using various tests, we find that market efficiency rate is higher for dollar denominated returns than for local currency returns. Contrary to our predictions, we find weak evidence that one country’s legal system contributes to the level of market efficiency. At the minimum, we can state that for local currency returns, civil law countries seem to have markets that are more efficient compared to those in common law countries. Overall, the findings are consistent with the suggestion that exchange rate reforms as well as exchange rate fluctuations may introduce biases that can affect market efficiency.

A Brownian Motion Foundation for Informational Diversity and Proximity, with Application to Rational Expectations Equilibrium.

We propose a tractable new informational framework for large economies with informationally heterogeneous individuals, and then apply it to analyze rational expectations equilibria. Our framework subsumes both public and conditionally independent private signals as special cases, but most importantly captures informational geography and social network effects. Our approach is to identify agents in a formally static world with moments in time: Agent t's signal is then a time-t realization of a Gaussian stochastic process with a known covariance function and uncertain mean. Individuals differ by their social weighting function used in this stochastic process. As an application, we explore rational expectations equilibria with conditionally correlated information. We find that the behaviour of prices and investors substantially differs from the world with conditionally independent signals. For instance, an agent's price impact is no longer solely determined by her signal's precision. Furthermore, investors may trade against their information and, in particular, rationally trade on different sides of the market at a public announcement. In a focal example of a circular world, we explore how correlation affects market efficiency and expected prices. We find, for instance, that for a fixed precision of individual signals, prices convey less information as the quality of aggregate information improves, provided the signal correlation is high enough.

Do consumers ever learn? Analysis of segment behavior in experimental markets

Economists argue that, despite cognitive limitations, economic agents arrive at optimal choice rules by learning. The assumption is that consumers, for example, are adaptively rational. Adaptive rationality raises a host of issues. We address three of these in the context of experimental markets: do consumers differ on the basis of learning; how do these differences, when aggregated, affect market efficiency; and how do consumers learn? Analysis of our experimental data reveals the following. First, multiple segments of consumers exist on the basis of learning. Second, the largest segment consists of subjects who do not learn despite timely feedback and motivation. Third, although some consumers do learn to make optimal choices, the effect of this segment on market efficiency is cancelled by an equal number of subjects who ‘learn' false relations. Finally, although subjects do not learn strict rationality even with experience, they are in the aggregate not so irrational as to allow highly suboptimal brands to survive. Further analysis of how consumers learn, specifically on the cues (signals) and the rules consumers employ in making choices over time leads to the following two conclusions. First, some signals make learning more easy than others: for example, providing market share information improves learning but not as much as providing quality information does. Second, people employ different rules depending upon the type of information they have. For example, consumers making decisions based only on price information are more likely to use a heuristic like ‘buy a medium-priced product provided it has not failed in the past'. Consumers making decisions based on price and quality information may employ a heuristic such as ‘buy top quality products regardless of price'. We discuss the implications of these findings for theory and practice. Copyright © 2000 John Wiley & Sons, Ltd.