Research
Publications
(with Ivan Shaliastovich and Amir Yaron) knowledge
Journal of Financial Economics, August 2015, Vol 117, pages 369-97.
Outstanding Paper, Jacobs-Levy Equity Management Center for Quantitative Financial Research
Abstract: Does macroeconomic uncertainty increase or decrease aggregate growth and asset prices? To address this question, we decompose aggregate uncertainty into ‘good’ and ‘bad’ volatility components, associated with positive and negative innovations to macroeconomic growth. We document that in line with our theoretical framework, these two uncertainties have opposite impact on aggregate growth and asset prices. Good uncertainty predicts an increase in future economic activity, such as consumption, output, and investment, and is positively related to valuation ratios, while bad uncertainty forecasts a decline in economic growth and depresses asset prices. Further, the market price of risk and equity beta of good uncertainty are positive, while negative for bad uncertainty. Hence, both uncertainty risks contribute positively to risk premia, and help explain the cross-section of expected returns beyond cash flow risk.
Topic: Uncertainty
Non-Technical Introduction
(Solo-authored)
Journal of Financial Economics, October 2019, Vol 134, pages 110-140; click here for Online Appendix
Abstract: What is the impact of higher technological volatility on asset-prices and macroeconomic aggregates? I find the answer hinges on its sectoral origin. I document several novel empirical facts: Volatility that originates from the consumption sector plays the ``traditional'' role of depressing the real economy and stock prices, whereas volatility that originates from the investment sector boosts prices and growth; Investment (consumption) sector's technological volatility has a positive (negative) market-price of risk; Investment sector's technological volatility helps explain cross-sectional spreads beyond first-moment shocks. I show that a quantitative two-sector DSGE model, that features monopolistic power for firms and sticky prices, as well as early resolution of uncertainty, can explain the differential impact of sectoral volatilities on real and financial variables. In all, the sectoral decomposition of volatility can overturn the typical negative interaction of volatility with economic activity.
Topic: Uncertainty, Multi-sector, Production
Non-Technical Introduction
(Corresponding author; with Michael Gofman and Youchang Wu)
Review of Financial Studies, March 2020, Vol 33, pages 5856–5905; DOI: 10.1093/rfs/hhaa034; click here for Online Appendix
Abstract: We examine empirically and theoretically the relation between firms' risk and their distance to consumers in a production network. We document two novel facts: firms that are further away from consumers have higher risk premia and higher exposures to aggregate productivity. We quantitatively explain these findings using a general equilibrium model featuring a multi-layer production process. The economic force is "vertical creative destruction" -- positive productivity shocks to suppliers devalue customers’ assets-in-place, which lowers the cyclicality of downstream firms' values. We show that vertical creative destruction varies with competition and firm characteristics, and generates sizable cross-sectional differences in risk premia.
Topic: Networks, Production
Non-Technical Introduction
(Corresponding author; with Fotis Grigoris and Yunzhi Hu)
Review of Financial Studies, February 2023, Vol 36, pages 814–858; DOI: 10.1093/rfs/hhac044; click here for Online Appendix
Abstract: This paper studies the implications of trade credit for asset prices, the dynamics of production-network linkages, and the quality of firms’ customers. We document that firms that extend more trade credit earn 7% p.a. lower risk premia, maintain longer relationships with their customers, and trade with more productive customers. Moreover, suppliers with longer-duration links to customers command lower expected returns. Using a production-based model, we quantitatively explain these facts. Trade credit reduces the departure probability of high-quality customers, thereby reducing firms' exposures to systematic costs incurred in finding new customers. Overall, trade credit is informative for micro- and macro-level fundamentals.
Topic: Networks, Production
Non-Technical Introduction
(Corresponding author; with Jesse Davis)
Review of Financial Studies, June 2023, Vol 36, pages 2509-2570; DOI: 10.1093/rfs/hhac084; click here for Online Appendix
Abstract: The data-generating process of productivity growth includes both trend and business-cycle shocks, generating many counterfactuals for prices under full-information. In practice, agents cannot immediately distinguish between the two shocks, leading to ``rational confusion’’: each shock inherits properties of its counterpart. This confusion magnifies the perceived share of permanent shocks and implies that, in contrast to canonical frameworks, transitory shocks are the main driver of long-run risk through trendy business-cycles. With learning, the equity premium turns positive, and both investment and valuation ratios become procyclical, in-line with the data. Consequently, rational confusion is key for bridging disciplined macro-dynamics with equilibrium asset-prices.
Topic: Production, Uncertainty (Information)
Non-Technical Introduction
(Corresponding author; with Fotis Grigoris)
Management Science, January 2024, Vol 70, pages 207-224. DOI: 10.1287/mnsc.2022.4647; click here for Online Appendix
Abstract: We study the interaction of flexible capital utilization and depreciation for expected returns and investment of firms. Empirically, an investment strategy that buys (sells) equities with low (high) utilization rates earns 5% p.a. Utilization predicts excess returns beyond other production-based variables. We reconcile this novel utilization premium quantitatively using a production model. The model suggests that flexible utilization is important for matching the cross-sectional distribution of investment and stock prices jointly. A model without flexible utilization yields many counterfactuals that flexible utilization addresses by making depreciation fluctuate endogenously. Overall, utilization tightens the link between firms' production and valuations.
Topic: Production
Non-Technical Introduction
Working Papers
(with Fotis Grigoris)
Revise & Resubmit at the Journal of Finance
WRDS Best Paper Award, 2022 Eastern Finance Association
Best Paper Award, 2021 ISB Summer Research Conference
Best Paper in Asset Pricing, 2021 FMCG Conference
Abstract: The impact of uncertainty shocks on firm-level economic activity depends on their origin in supply-chains. Upstream (downstream) uncertainty from suppliers (customers) is associated with variability over future input (output) prices. Consequently, a real-option production model with time-to-build suggests that only upstream uncertainty suppresses investment since upstream (downstream) uncertainty affects the shorter-run (longer-run). Consistently, production-network data show that upstream uncertainty affects firm-level outcomes negatively. Conversely, downstream uncertainty affects firm-level outcomes more weakly but positively. At the macro-level, these two uncertainties oppositely predict aggregate growth and asset prices. Overall, downstream uncertainty has an expansionary effect, in contrast to other facets of uncertainty.
Topic: Networks, Uncertainty
(with Ivan Shaliastovich )
Revise & Resubmit at the Review of Financial Studies
Abstract: We find that high productivity-based macroeconomic uncertainty is associated with greater accumulation of physical capital despite a reduction in investment and valuations. To reconcile this puzzling evidence, we show that uncertainty predicts lower aggregate depreciation of existing capital, which dominates the investment slowdown. We explain these findings by developing a quantitative production-based model in which firms implement precautionary savings through reducing utilization rather than raising investment. Through this novel intensive-margin mechanism, uncertainty shocks command a quarter of the equity premium in general equilibrium. Flexibility in utilization adjustments also helps explain uncertainty risk exposures in the cross-section of industry returns.
Topic: Uncertainty, Production
(with Chao Ying )
Abstract: We examine a perplexing phenomenon wherein technological innovations induce short-term contractions, using a two-sector New-Keynesian model. Pivotal to explaining the evidence is the joint effect of sticky prices, in conjunction with the separation of production into investment and consumption sectors. This setup alters the cyclicality of capital good prices, which modulates production during innovative phases. The model addresses key asset-pricing puzzles: Why is there a negative link between investment returns and stock returns? Why do valuations surge after adverse labor-market events? Why do both high book-to-market and high gross profits relate positively to risk premia, despite their divergent ties to technology? Why is the slope of the equity yield term structure procyclical? The mechanism of innovation-led contractions serves as a unifying thread, weaving together previously isolated questions while offering a novel perspective.
Topic: Production, Multi-sector
(with Roy Chen-Zhang )
Abstract: Yes. The quantity of risk underlying cross-sectional return spreads is time-varying, yielding swings in factors' risk premia. We define ``macro-relevant'' factors as those whose risk premium variation induce consumption fluctuations, and more broadly, a business-cycle. While most factors documented in the literature are vetted in this manner, a handful of factors' risk matter for economic growth, above and beyond changes in market risk. We cluster macro-relevant factors based on their impact in frequency domains. Macro-relevant factors mostly relate to profitability, organization capital, financial conditions, or inventory. Interestingly, many factors' risk premia are associated with expansions, unlike the market risk premium.
Topic: Macro-Finance, Uncertainty
Abstract: What are the quantitative implications of learning and informational asymmetries, for generating fluctuations in aggregate and cross-sectional volatility over the business cycle? I propose a model that relies on informational channels, for the endogenous amplification of the conditional volatility in macro aggregates and of cross-sectional dispersion during economic slowdowns, in a homoscedastic-shock environment. The model quantitatively matches the fluctuations in the conditional volatility of macroeconomic growth rates, while generating realistic real business-cycle moments. Consistently with the data, shifts in the correlation structure between firms are an important source of aggregate volatility. Up to 80% of the conditional aggregate volatility fluctuations are attributed to fluctuations in cross-firm correlations. Correlations rise in downturns due to a higher weight that firms place on public information, which causes their beliefs, and policies, to comove more strongly. In the data, correlations rise at recessions in spite of a contemporaneous increase in cross-sectional volatility, as the average between-firm covariance spikes more than dispersion does.
Topic: Production, Uncertainty (Information)
Abstract: The paper studies the term structure of interest rate spreads of government debt in emerging markets. In the data on the U.S. economy and emerging markets, one can observe that (1) the nominal term structure in the U.S. is upward sloping; (2) the slope of spread curves, defined as the difference between the defaultable yield curves of emerging market economies and the nominal yield curve of U.S. treasury bonds, is positive, but becomes negative in distressed times; (3) defaults in emerging markets tend to occur at `bad' times for the U.S. economy, when consumption growth is low, and the volatility of fundamentals is high. I propose a dynamic model of sovereign defaults to explain the former stylized facts. I focus on Brazil as a case study. The model matches spreads in a broad context that can also account for prominent U.S. asset-pricing features, including the nominal term-structure, and the equity premium of the U.S. economy. Moreover, in the model, U.S. shocks to consumption and volatility propagate to the rest of the world, and affect international sovereign credit risk and bond prices, as also observed in the data.
Topic: Debt, Uncertainty