How does the market value “toxic” structured-credit securities? We study the valuation of what is possibly the most toxic of all toxic assets: the equity tranche of a collateralized debt obligation (CDO). In theory, CDO equity should be similar in nature to bank stock since both represent residual claims on a portfolio of loans. We find CDO equity returns are much more related to stock returns than to fixed-income returns. CDO equity returns track the returns of financial stocks much more closely than any other industry. Nearly two-thirds of the variation in CDO returns can be explained by fundamentals.

We study the distinct impacts of own and rival actions on risk and return when firms strategically compete in the product market. Contrary to simple intuition, a competitor’s options to adjust capacity reduce own-firm risk. For example, if a rival possesses a growth option, an increase in industry demand directly enhances profits but also encourages value-reducing competitor expansion. The rival option thus acts as a natural hedge. Within the industry, we obtain endogenous differences in expected returns. In a leader-follower equilibrium, own-firm and competitor risks and required returns move together through contractions and oppositely during expansions, providing testable new predictions.

Financial expertise among independent directors of U.S. banks is positively associated with balance-sheet and market-based measures of risk in the run-up to the 2007–2008 financial crisis. While financial expertise is weakly associated with better performance before the crisis, it is strongly related to lower performance during the crisis. Overall, the results are consistent with independent directors with financial expertise supporting increased risk taking prior to the crisis. Despite being consistent with shareholder value maximization ex ante, these actions become detrimental during the crisis. These results are not driven by powerful chief executive officers who select independent financial experts to rubber stamp strategies that satisfy their risk appetite.

While recent literature documents that U.S. family firms differ markedly from their nonfamily counterparts, there is a paucity of evidence on how these firms differ in terms of their cost of capital or financial structure. In this paper, we show that family and nonfamily firms differ in their debt maturity and leverage ratios in a manner consistent with the higher expropriation potential of family firms. Moreover, while more transparency causes both family and nonfamily firms to increase the maturity structure of their debt and reduce leverage ratios, the effects are stronger for family firms.

Contrary to the prediction of the standard portfolio diversification theory, many investors place a large fraction of their stock investment in a small number of stocks. I show that underdiversification may be caused by solvency requirements. My model predicts that for quite general preferences and return distributions: (1) underdiversification decreases in discretionary wealth; and (2) expected return and covariance determine which stocks to invest in, but variance, higher moments, and Sharpe ratio do not matter for this choice. In addition, a less-diversified stock portfolio has a higher expected return, a higher volatility, and a higher skewness, and idiosyncratic risks are priced.

We study the informativeness of trades via discount and full-service retail brokers. We find that trades via full-service retail brokers are statistically and economically more informative than are trades via discount retail brokers. This finding holds in every year over the 12-year sample period and in various subsamples. We also find that past returns, volatility, and news announcements positively relate to the net volume of discount retail brokers, but these variables are unrelated to the net volume of full-service retail brokers. Our results suggest that broker type selection bias is an important consideration in studying individual investors’ trades.

We investigate the risk choices of risk-averse CEOs. Following recent theoretical work, we expect CEO risk aversion to be more pronounced in firms with high leverage or high default probability. We find that the CEOs of these firms reduce firm risk, even in the presence of strong risk-taking incentives. Our results are robust to controls for the sensitivity of CEO wealth to stock price changes, firm risk determinants, the endogenous feedback effects of firm risk on CEO incentives, unobserved firm and market effects, and debt governance. The impact of CEO risk aversion is economically significant.

We derive a macroeconomic asset pricing model in which the key factor is the opportunity cost of money. The model explains well the cross section of stock returns in addition to the excess market return. The interest rate factor is priced and seems to drive most of the explanatory power of the model. In this model, both value stocks and past long-term losers enjoy higher average (excess) returns because they have higher interest rate risk than growth/past winner stocks. The model significantly outperforms the nested models (capital asset pricing model (CAPM) and consumption CAPM (CCAPM)) and compares favorably with alternative macroeconomic models.

We study the value gains from takeovers of firms with poor acquisition histories. We document that the premium received by target shareholders is higher when the value loss from the targets’ prior acquisitions is larger. However, the gains to target shareholders seem to be offset by losses to acquiring shareholders. The average announcement return to acquiring shareholders is negative and decreasing in the value loss from the targets’ prior acquisitions. Additionally, the combined acquirer-target value created in these takeovers is insignificant. These results suggest that the value lost from targets’ prior acquisitions is not recovered through changes in corporate control.