How Institutional Cross-Ownership Affects Corporate Financing of Investment Opportunities

Public firms are increasingly connected through institutional investors’ stock ownership, largely due to individual investors who invest excess cash and retirement savings through financial institutions. Firms with institutional cross-ownership have institutional stockholders with significant stakes in other firms within the same industry. Cross-ownership presents interesting and important dynamics, because an investor, the cross-owner, has an incentive to maximize welfare through joint ownership of the different firms. The investor also has access to private information about the firm’s peers. In a new paper, we examine how cross-owners affect a firm’s ability to raise capital for investment.

Investment opportunities are vital for … Read more

The Economic Impact of Mutual Fund Investor Behavior

While the behavior of mutual fund investors is an active field of study within finance, we do not know very much about how these behaviors have changed over time.  The simple reason for this is that most studies in this area examine only a single, static sample period or conduct only a very limited analysis of changes in behavior over sample sub-periods.  Yet a great deal has changed since the early 1990s, when most of the accurate and detailed mutual fund data became available.  Financial markets, technology, and resources for investor education all look very different in 2018 than they … Read more

Corporate Loan Securitization and Standardization of Finance Covenants

Over the last few years, the corporate loan market has experienced significant growth. Arguably, the most significant development has been the securitization of syndicated loans through Collateralized Loan Obligations (CLOs). CLOs are special purpose entities that purchase high-yield corporate loans and use the principal and interest payments of these loans as collateral to issue new senior and junior notes (called CLO notes) that are bought by banks and non-bank institutional investors such as hedge funds and insurance firms. The CLO loans and notes are rated by at least two credit rating agencies to reduce information asymmetry between managers and investors. … Read more

How Economic Conditions Affect Auditors’ Judgment

Auditor judgment and technical competence are central to audits, and a lack of those qualities has led to many audit deficiencies, according to the Public Company Accounting Oversight Board (PCAOB), the UK’s Financial Reporting Council (FRC), and other regulators around the world. In our recent article, “Long-Term Impact of Economic Conditions on Auditors’ Judgment,” available here, we use two newly-available archival datasets on auditors’ personal information and their audit adjustments, and provide evidence on whether and how the economic conditions at the time of an auditor’s entry into the labor market affect her judgment and decision-making years later.

Our … Read more

Regulating Offshore Finance

The Cayman Islands, Bermuda, and the British Virgin Islands are famous as “tax havens” that facilitate the evasion or avoidance of domestic tax. They and a growing number of other offshore jurisdictions in the Caribbean and elsewhere are emerging hubs of modern financial transactions. While offshore jurisdictions tend to attract foreign capital with low tax rates, they may be doing much more than shortchanging the Internal Revenue Service.

In my article, “Regulating Offshore Finance,” I explore how offshore incorporation can enable commercial entities to evade federal regulatory statutes. The applicability of federal statutes and where a commercial entity chooses to … Read more

Are Private Equity Returns Too Good to Be True?

Investments in private equity are typically structured as 10 year limited partnerships in which fund managers act as general partners (GPs) and investors act as limited partners (LPs). Since the fund life is broken down into an investment and a liquidation period, GPs can only make new investments after the investment period has expired by raising a new fund. At that time, existing investments are not necessarily liquidated, so that current fund returns rely heavily on subjective performance estimates of their investments. This fact, stemming from a market setting of information asymmetries, has led many investors, industry observers, and academics … Read more

Cleary Gottlieb on Latest Developments in European Leveraged Finance

EVOLUTION OF THE TRANSFERABILITY CLAUSE

Early 2000s

  • Lenders’ freedom to transfer their participations in large leveraged loans has been gradually eroded by developments introduced through the last few credit cycles.
  • By the time of the pre-crisis peak in 2007/2008, the provisions governing freedom to transfer had settled on the following:
    • Transfers had to be to “another bank or financial institution or to a trust, fund or other entity which is regularly engaged in or established for the purpose of making, purchasing or investing in loans, securities or other financial assets”.
    • Borrower consent to any transfer was required (which

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Simpson Thacher Discusses U.S. Treasury Report on Reforming the Community Reinvestment Act

On April 3, 2018, the U.S. Treasury Department issued a report detailing a number of recommendations for reforming and modernizing the Community Reinvestment Act of 1977 (“CRA”) framework.  The report, which follows through on the commitment made by Treasury in its June 2017 report to the President to review the current CRA framework, includes recommendations for (i) changing the way CRA geographic assessment areas are defined to reflect the changing nature of banking arising from changing technology, customer behavior, and other factors; (ii) improving the CRA performance evaluation criteria to increase the transparency and effectiveness of CRA rating determinations; (iii) … Read more

Debevoise Discusses FinCEN’s Guidance on the Customer Due Diligence Rule

On April 3, 2018, the U.S. Treasury Department’s Financial Crimes Enforcement Network (“FinCEN”) issued long-awaited frequently asked questions (“FAQs”) regarding its new customer due diligence requirements (“CDD Rule”) that become effective on May 11, 2018.1 As a reminder, on May 11, 2018, the CDD Rule will require covered financial institutions (1) to establish procedures to identify and verify the identity of the beneficial owners of legal entity customers that open new accounts unless an exception applies and (2) ensure their anti-money laundering (“AML”) compliance programs include appropriate risk-based procedures for ongoing CDD efforts, including developing customer risk profiles and periodically … Read more

Kirkland & Ellis Discusses Trump Administration’s Ban on Dealings in Venezuelan Cryptocurrency

On March 19, 2018, President Trump issued an Executive Order “Taking Additional Steps to Address the Situation in Venezuela” (“Executive Order”) that prohibits U.S. persons from engaging in dealings in any digital currency, digital coin, or digital token issued by, for, or on behalf of the government of Venezuela.[i] The same day, the U.S. Department of the Treasury Office of Foreign Assets Control (“OFAC”) issued corresponding guidance that lays the groundwork for potential sanctions related to digital currency transactions more generally. Taken together, these actions reflect tightening sanctions on Venezuela, and may foreshadow OFAC asserting jurisdiction over cryptocurrency in … Read more

Did Dodd-Frank Help Reduce Systemic Risk?

In response to the 2008 financial crisis, the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank) was enacted on July 21, 2010 to overhaul the U.S. financial regulatory system. Dodd-Frank contains 390 rulemaking requirements, of which 274 (70.3 percent) were satisfied as of July 2016.[1] Although implementation has been slow, Dodd-Frank has wrought many changes in the financial system. One of the most visible is the increased levels of capital at bank holding companies (BHCs).

The common equity tier 1 ratio of the 31 large and interconnected BHCs decreased from 7.07 percent in the fourth quarter of 2005 … Read more

How Innovation and Technological Savvy Would Help Institutional Investors

The role of institutional investors in modern society often goes underappreciated. In fact, the viability of many socio-economic systems is premised on institutional investors succeeding in their missions. Sovereign wealth funds help stabilize the macro-economy and currency prices, finance critical infrastructure, and invest for citizens’ long-term future. Pension schemes provide transfer mechanisms that permit billions of people to have financial security in later life. And endowments and foundations fund scientific research and education, as well as sustain the arts.

To execute these crucial functions, institutional investors must remain competitive within today’s global financial ecosystem. And this means adopting advanced technologies, … Read more

Central Banks, Private Securities Purchases, and Nominal GDP Targeting

Central bank law is an unloved part of public law. Maybe that’s because commercial litigators cannot sue central banks, advise the people that sell bonds to them, or argue cases in front of the U.S. Supreme Court to create new doctrines of central bank policy. Yet, new empirical studies may cast light on this unloved sector while pleasing economists eager to put in place something called nominal GDP targeting.

In our recent article, we discuss how to legally authorize central banks to buy private securities like corporate stocks and bonds. We find that the easiest way is to make … Read more

The Fiduciary Rule Controversy and the Future of Investment Advice

One of the most disputed policy initiatives of the Obama administration was the Department of Labor’s fiduciary rule, which subjects brokers and other financial professionals managing retirement accounts to a fiduciary duty to avoid conflicts and act in the best interest of investors.  Functionally, the rule mandates a drastic change to how brokers are compensated.  The rule has been enormously controversial, garnering thousands of comments, subjected to days of hearings, and spawning hundreds of pages of news articles and commentaries. The Trump administration has halted enforcement of the rule for 18 months to review its effects, and its future remains … Read more

Silence is Safest: Non-Disclosure When the Audience’s Preferences are Uncertain

An important and long-standing question in the economics of information is whether voluntary disclosure leads to full disclosure. A compelling and intuitive argument, often described as the “unraveling” argument (see Milgrom, 1981), suggests that the answer is, yes. In brief, the argument is that the firm, or more generally the “sender,” with the most favorable information will voluntarily disclose. So the audience for the disclosure—the “receiver”—will interpret non-disclosure as indicating that the firm does not have the most favorable information. But given this, the firm with the second most favorable information will disclose, and so on. All the firms thus … Read more

The Rise of U.S.-Listed VIEs from China: Balancing State Control and Access to Foreign Capital

We investigate Chinese firms’ use of variable interest entities (VIEs) to evade Chinese regulation on foreign ownership and list in the U.S. We find that the use of VIEs for such ends is widespread, growing, and associated with valuation discounts of as much as 30 percent relative to Chinese non-VIE firms listed in the U.S. The discount varies predictably with events that change the risk of government intervention and managerial malfeasance, and is tempered by better oversight and lower regulatory risk. To protect shareholders, VIE firms are more likely to have these characteristics as well as to curry government favor … Read more

Cleary Discusses Settlement Payments Under the New Tax Law

Investigations into potential violations of U.S. and non-U.S. securities laws are often resolved by a settlement requiring the business to make one or more large settlement payments.  We have seen settlements paid to the DOJ, the SEC, other U.S. and non-U.S. regulators, and private plaintiffs.  An important question is whether the payment will be deductible for tax purposes.  Since 1969, the U.S. tax law has denied a deduction for “any fine or similar penalty paid to a government for the violation of any law.”[1]  This limitation was significantly changed by the U.S. tax reform law enacted in December of … Read more

Skadden Discusses Expectations for Robust U.S. Capital Markets in 2018

The U.S. high-yield and investment-grade debt markets saw significant increases in 2017 over 2016 in dollar volume and number of issuances.[1] The U.S. equity indices reached new highs throughout the year, with the Standard & Poor’s 500 index ending the year up 19.4 percent.

The slow, steady expansion of the economy (one of the longest expansion cycles on record) and the current favorable market conditions, along with the recently enacted reduction in corporate taxes — which could drive earnings expansion — have fueled optimism for robust capital markets activity in 2018. Questions linger, however, about the sustainability of the … Read more

Columbia’s Program in the Law and Economics of Capital Markets Is Hiring Post-Doc Research Fellow

Columbia Law School and Columbia Business School’s Program in the Law and Economics of Capital Markets is now accepting applications for their Post-Doctoral Research Fellow.  This position is intended for a person who expects to begin a law school teaching career at the start of the 2020-21 academic year and who desires an interim position that would help the person prepare for such a career by offering the time and facilities needed to do serious research and to develop further expertise.  A candidate should have an exceptional academic record from a major law school and have at least three years … Read more