Managerial Finance

Mahmod Qadan; Joseph Yagil

2012 Managerial Finance

doi: 10.1108/03074351211248162

Purpose – The purpose is of this paper is to investigate whether the tracking ability of exchange traded funds (ETFs) is lower in highly volatile periods, and to shed more light on the factors behind the tracking error. Design/methodology/approach – The authors apply the Error Correction Model that incorporates a short‐run adjustment mechanism on domestic US ETFs that follow industrial indices. Findings – It was found that tracking errors attained pronounced levels during 2008 compared to 2006 and 2007, mainly in ETFs from the real estate and banking and finance sectors. In addition, tracking error is positively correlated with the daily volatility of the ETF, while trading volume has a limited effect on reducing tracking errors. Practical implications – The paper sheds more light on the relationship between securities and their fundamentals, and contributes to the literature on the information transmission mechanism for dually‐listed securities. Originality/value – The paper uses the co‐integration tests and the error correction model (ECM) to test the long‐run relationship between returns on domestic exchange trade funds (ETFs) and the returns on the underlying indices. In particular, the ECM is used for ETFs for the first time.

Anh Duc Ngo; Oscar Varela

2012 Managerial Finance

doi: 10.1108/03074351211248180

Purpose – The purpose of this paper is to examine the impact of earnings smoothing on the underpricing of seasoned equity offerings (SEOs). It aims to investigate whether earnings smoothing can add value to firms by reducing the degree of SEO underpricing. Design/methodology/approach – The sample of US common stock seasoned equity offerings (SEOs) by non‐regulated firms during 1989‐2009 was used to conduct various cross‐section, univariate, and multivariate tests, using several proxies for earnings smoothing, in order to confirm the impact of earnings smoothing on the degree of SEO underpricing. Three‐stage least square estimation was used to address the possible endogeneity of pricing and earnings smoothing. Findings – Smooth earnings performance resulting from discretionary accruals is negatively related to SEO underpricing and improves earnings informativeness. Consistent with risk management and signaling theories, managers' efforts to produce smooth earning reports may add value to their firms. Based on the mean values for SEOs, such smoothing reduces underpricing by $0.33 per share offered and increases the value of the average offering by $1.65 million. Smoothed earnings also conveys information about the firms' future performance, as firms with a long historical pattern of smooth earnings prior to SEOs significantly outperform, for at least three years after the SEO, those with more volatile earnings, with respect to stock returns and operating performance. Originality/value – The paper contributes specifically to the current literature on earnings smoothing by demonstrating that high quality firms that expect larger quantity of cash flows in the near future are more likely to actively smooth earnings via discretionary accruals before SEOs to reduce underpricing. The paper contributes generally by showing that firms can signal their quality to outside investors by showing smooth earnings over a long period of time and such firms are more likely to experience a lower degree of underpricing through SEO episodes.

Stephen P. Huffman; Scott B. Beyer; Michael H. Schellenger

2012 Managerial Finance

doi: 10.1108/03074351211248199

Purpose – The purpose of this paper is to illustrate the effectiveness of integrating a portfolio simulation‐based trading program with the top‐down approach to fundamental analysis in a security analysis course. The simulation allows for the application of class material using a combination of group and individual projects. Design/methodology/approach – Students enrolled in the class completed a survey about the integrated approach and the required simulated trading. Findings – Over 87 per cent of students agreed that the economic analysis provided more educational value as a group project than as an individual project, while over two‐thirds of the students disagreed that the trading simulation had more education value as a group project. Research limitations/implications – Although the authors focus on the top‐down approach, the concepts of technical analysis, hedging, and income generation could be more formally incorporated into the trading simulation. Practical implications – The outline of how to integrate a trading simulation into the top‐down approach, using a combination of group projects and a cumulating project completed by each student, can be used as a guide for how to make the top‐down approach a more meaningful task. Social implications – The integration of the portfolio simulated trading program with the top‐down approach makes the course more applied and more enjoyable for both the students and the faculty. Originality/value – The paper outlines how to integrate a trading simulation and the top‐down approach and reports the finding that students preferred the group approach to economic analysis and individual projects for the simulation and the company analysis.

Tony Chieh‐Tse Hou

2012 Managerial Finance

doi: 10.1108/03074351211248207

Purpose – The purpose of this paper is to investigate whether mutual fund investors can make effective cash flow timing decisions and examine the sensitivity of these decisions to past fund performance using cash flow data at the individual fund level. Design/methodology/approach – This study examines performance persistence and investor timing ability of 200 domestic equity mutual funds in Taiwan between 1996 and 2009. In particular, a performance gap measuring the difference between dollar‐weighted average monthly returns and geometric average monthly returns is used to evaluate investors' timing ability. Findings – The empirical results show that funds that have performed well (poorly) in the previous year tend to continue performing well (poorly) in the following year, and investors' timing performance is negatively related to fund performance. The results also show that investors' timing performance is significantly and negatively related to fund size, length of fund history, and momentum‐style of funds, but positively related to value‐style funds. These results suggest that mutual fund investors are loss‐averse and demonstrate return‐chasing behavior in well‐performing funds. Originality/value – The paper contributes to the mutual fund performance literature by proposing an integrated framework that jointly tests fund performance and how it affects investors' cash flow timing decisions. Furthermore, the paper individually measures investors' timing sensitivity for the current best (worst) performance funds and consecutive two‐year best (worst) performance funds, and contributes to a growing body of research on the behavior of mutual fund investors.

Jared H. Bowers; Angeline M. Lavin

2012 Managerial Finance

doi: 10.1108/03074351211248225

Purpose – The purpose of this paper is to develop and test a model that can be used to help students learn the investment analysis process and accurately identify good and bad investment opportunities. Design/methodology/approach – The model tested in this research was developed by a former member of the student managed investment fund Coyote Capital Management at the University of South Dakota. The goal of this project was to refine that original model and test it using historical data from a sample of companies during both bull and bear market periods. Findings – During the bull market period (2004‐2006), 81 per cent of the model's recommendations were correct, and during the 2007‐2009 bear market period, approximately 66 per cent of the model's recommends were correct. Originality/value – While following the model's recommendations could potentially produce returns well above those of the market in the best case scenario and returns in line with the market in the worst case scenario, there are many factors that should go into making an investment decision. This model can be useful as an item in the investor's tool kit, and it has the potential to help students better understand the process of evaluating an investment opportunity.