RAGHAVENDRA RAU
Name Changes
Investor attention limits
CEO Behavior
My co-author, Mike Cooper (at the University of Utah) and I are probably the world's leading experts on corporate name changes (with three (!) papers on name changes). Academics believe that name changes are essentially cosmetic - they should have no effect on the value of the firm.
The popular wisdom does not always believe this though. There was a Simpsons cartoon where Homer changes his name to Max Power with very positive consequences.
As with Homer, so with financial markets. In hot markets, investors go crazy and buy firms that have even a vague connection to the hot industry. It all started with this paper.
A Rose.com by Any Other Name
In this paper, we documented a striking positive stock price reaction to the announcement of corporate name changes to Internet related dotcom names. This "dotcom" effect produces cumulative abnormal returns on the order of 74% for the ten days surrounding the announcement day. The effect does not appear to be transitory; there is no evidence of a post announcement negative drift. The announcement day effect is also similar across all firms, regardless of the firm's level of involvement with the Internet. A mere association with the Internet seems enough to provide a firm with a large and permanent value increase. Every time there is a new hot market phenomenon (such as the recent one where firms added a blockchain to their names), this paper is heavily cited. It was even cited by the National Football League for some odd reason. It was published in the Journal of Finance in 2001. It is downloadable here.
Managerial actions in response to a market downturn: Valuation effects of name changes in the dot.com decline
Mike and I (with a bunch of other co-authors) then followed up the rose.com paper with a second one where we investigated stock price reactions to Internet related name changes after the bubble burst. In contrast to the Internet boom period, during which there was a surge of dot.com additions, in the bust period, we found a dramatic reduction in the pace of dot.com additions accompanied by a rapid increase in dot.com name deletions. Following the Internet "crash" of mid-2000, investors react positively to name changes for firms that remove dot.com from their name. This dot.com deletion effect produces cumulative abnormal returns on the order of 64 percent for the sixty days surrounding the announcement day. Our results add support to a growing body of literature that documents that investors are potentially influenced by cosmetic effects and that managers rationally time corporate actions to take advantage of these biases. It was published in the Journal of Corporate Finance in 2005. It is downloadable here.
Changing names with style: Mutual fund name changes and their effects on fund flows
Mike and I (with Huseyin Gulen) finally followed up with a third paper where we investigated the effects of conditional name changes in the mutual fund industry. Specifically, we examine whether mutual funds change their names to take advantage of the current hot investment styles, and what effects these name changes have on the flows in and out of the funds, and to the funds' subsequent returns. We find that name changes tend to occur in waves; funds tend to change their names to be associated with the current high return style or to disassociate themselves from the current low return styles. The year before a fund changes its name to reflect a current hot style or moves away from a current cold style, the fund experiences an average excess outflow of approximately -5%. The year after the name change, these funds earn average cumulative excess flows of 30%, despite no increase in performance compared to their pre-name change performance. It was published in the Journal of Finance in 2005. It is downloadable here.
This class of papers fits more into the behavioral finance literature. Investors have limited attention and do not process information completely before reacting. The name change literature is also behavioral but it is unusual enough that I gave it its own link.
Investor Reaction to Corporate Event Announcements: Under-reaction or Overreaction?
Researchers have proposed two conflicting behavioral models, under-reaction and over-reaction, as explanations for the long-run abnormal return patterns following a variety of corporate events. In this paper, we tested hypotheses to distinguish between these two behavioral models for four corporate events, seasoned equity offerings, share repurchases, stock-financed acquisitions and cash-financed acquisitions. Long-run abnormal returns appear attributable to the investor under-reaction model. Investors under-react to short-term information available prior to the event and subsequently under-react to information conveyed by the corporate event. Long-run abnormal returns reflect the net effect of investor under-reaction to these two pieces of information. We find no evidence to support the over-reaction model.
The paper was published in the Journal of Business in 2004. It is downloadable here.
Past performance may be an illusion: Performance, flows, and fees in mutual funds
Mutual funds report performance in the form of a holding period return (HPR) over standardized horizons. Changes in HPRs are equally influenced by new and previously reported stale returns which enter and exit the horizon. Investors appear unable to differentiate between the joint determinants, reacting with equal strength to both signals. Stale performance chasing is amplified for funds which promote performance via advertising and is more pronounced during periods of uncertainty in financial markets. Fund managers exploit this behavior by preferentially timing fee increases to align with periods of heightened investor demand resulting from stale performance chasing. The paper was published in the Critical Finance Review in 2016. It is downloadable here.
This paper does not look at investor behavior but at CEO behavior. Why do CEOs become overconfident?
What doesn’t kill you will only make you more risk-loving: Early life disasters and CEO behavior
The literature on managerial style posits a linear relation between a CEO’s past experiences and firm risk. In this paper, we show that there is a non-monotonic relation between the intensity of CEOs’ early-life exposure to fatal disasters and corporate risk-taking. CEOs who experience fatal disasters without extremely negative consequences lead firms that behave more aggressively, whereas CEOs who witness the extreme downside of disasters behave more conservatively. These patterns manifest across various corporate policies including leverage, cash holdings, and acquisition activity. Ultimately, the link between CEOs’ disaster experience and corporate policies has real economic consequences on firm riskiness and cost of capital. The paper was published in the Journal of Finance in 2017. It also won the Ig Nobel prize in 2015, a prize awarded to research that makes people burst out laughing but then think about it. It is downloadable here.