Showing papers in "Pacific-basin Finance Journal in 2015"

Board gender diversity and firm performance: Empirical evidence from Hong Kong, South Korea, Malaysia and Singapore

Abstract: Utilising a sample of Asian firms from Hong Kong, South Korea, Malaysia and Singapore, this study shows that increasing numbers of female directors on the board have a positive effect on firm performance, as measured by return on equity (ROE). However, the positive effects of gender diversity appear to be diminished in countries with higher female economic participation and empowerment. This may be due to tokenism and suggests that forcing female director appointment or mandating gender quotas can reduce firm performance in countries with strong cultural resistance.

Crises and contagion in Asia Pacific — Islamic v/s conventional markets

Abstract: This study attempts to investigate market co-movements in Islamic and mainstream equity markets across US and Asia Pacific. The objective is to understand the behavior of contagion across multiple crises in the last decade and a half. Taking a lead from theory, of pure and fundamental contagion, we employ wavelet decomposition to unveil the multi-horizon nature of co-movement. Our findings support the popular belief, that the majority of the global shocks since 1996 were transmitted via excessive linkages from US to Asia Pacific, while the recent subprime crisis reveals a fundamental based contagion. In terms of the real sector grounded Islamic markets, they tend to show traces of reduced exposure in some crises owing to low leverage effect, while the less diversified portfolio nature increases vulnerability in other crises. The findings tend to provide an empirical ground for the argument of Islamic equities and their composition, as a possible buffer to financial crises.

Comparative credit risk in Islamic and conventional bank

Abstract: In this paper, we consider the levels of credit risk in Islamic and conventional banks. One problem with existing studies is the use of accounting information alone to assess credit risk, and this could be especially misleading with Islamic banking. Using a market-based credit risk measure, Merton's distance-to-default (DD) model, we evaluate the credit risk of 156 conventional banks and 37 Islamic banks across 13 countries between 2000 and 2012. We also calculate the accounting information-based Z-score and nonperforming loan (NPL) ratio for the purpose of comparison. Our results show that Islamic banks have significantly lower credit risk than conventional banks as based on DD. In contrast, and as expected, Islamic banks display much higher credit risk using the Z-score and NPL ratio. These findings suggest that the measure chosen plays a significant role in assessing the actual credit risk of Islamic banks.

Issues in Islamic banking and finance: Islamic banks, Shari’ah-compliant investment and sukuk

Abstract: This introductory article of the special issue “Islamic Banking and Finance II” highlights various studies on fast-growing Islamic finance industry. It focuses specifically on Islamic banking and Islamic capital market research. To date, scholarly research on Islamic finance is mainly confined to empirical verification of its performance on the argument that the Islamic finance is distinct from conventional finance. While more works need to be done to soundly and concretely justify the viability of Islamic finance, future works should aim at placing the Islamic foundations of the industry in proper theoretical settings beyond the statement that it is different. In addition, theoretically and empirically, demonstration of its bearings on economic well-beings and policies such as economic stability, financial inclusion, economic development, and stabilization policies is needed.

Cross-sectoral interactions in Islamic equity markets

Abstract: Although it is essential for investors who want to comply with their religious obligations, cross-sectoral interaction in Islamic equity markets is an untouched subject in finance literature. Accordingly, this paper aims to investigate the interactions between the ten major sectors of Islamic equity markets by implementing the novel methodologies of dynamic conditional correlation (DCC) and dynamic equicorrelation (DECO) on Dow Jones Islamic Market sector indexes. We show that prior to the financialization period, firm fundamentals and real economic factors had an important role in driving the Islamic equity prices, however this role seemed to weaken in the last decade with the global financialization, leading to highly integrated Islamic equity sectors just as in the case of the conventional financial sectors. Moreover, this effect is emphasized further through financial contagion channels in the recent global financial crisis. Our findings thus suggest that Islamic equity indexes are also prone to global shocks hitting the world financial system, and investors should be cautious in interpreting and forecasting the interaction structure between Islamic equity sectors. Furthermore, our results do not support the decoupling hypothesis of the Islamic equity markets from the conventional financial system.

Can Islamic banking ever become Islamic

Abstract: This paper attempts to explain the dominance of asset side debt contracts in Islamic banks, even though many consider alternative Islamic joint venture (IJV) contracts to be the ideal Islamic financing mode. Theoretical models based on asymmetric information are used to argue that adverse selection and moral hazard alone cannot explain this phenomenon. The model is augmented with risk averse depositors to show that the emergence of asset side IJV could be deterred by Islamic banks' liability side. This paper suggests that for IJV, affiliated venture capital and private equity might prove more successful institutions than banking.

Why do issuers issue Sukuk or conventional bond? Evidence from Malaysian listed firms using partial adjustment models

Abstract: Although sukuk has been dominating the Malaysian capital market, the motivations of the firms issuing sukuk or conventional bonds remained largely unexplored. Using the partial adjustment model, we make the initial attempt, to test a firm's target debt optimizing behavior and secondly, to find the firm specific determinants of target debt ratio using a sukuk or conventional bond issuance 3 dataset. Our sample consists of 120 conventional bonds and 80 sukuk issuers from 2000 to 2012. We employ two recent dynamic panel data estimators, 4 which resulted in three major findings. Firstly, our results provide stronger support for trade-off view based on a firm's optimizing behavior among sukuk and conventional bond issuers, however with different issuance motives. Secondly, issuers of partnership-based sukuk and convertible bonds closely follow the pecking order view, in which the former is chosen based on firms facing a higher information asymmetry cost. Finally, while both exchange-based sukuk and straight bond issuers align towards a particular target, only firms with higher sales growth prefer the former. Reinforced by industry insights, our findings evidence that the sukuk offers bring unique “benefits” to corporate issuers unlike those of the conventional bonds.

What can we learn about Islamic banks efficiency under the subprime crisis? Evidence from GCC Region

Abstract: The study investigates the influence of subprime crisis on the efficiency of Islamic banks in the GCC region using data envelopment analysis for the period spanning from 2005 to 2011. We focus on three aspects of efficiency, namely overall technical efficiency, pure technical efficiency and scale efficiency. Empirical findings highlight a slight decline in Islamic bank efficiency further to the subprime crisis just like their conventional peers all over the world. However, most Islamic banks have remained efficient whereas some of them witnessed a relatively minor decrease in their efficiency level. The most acute intensity of drop in efficiency was recorded on average in 2009 for all categories of efficiency; that is two years after the subprime crisis occurrence.

Sharia compliant gold investment in Malaysia: hedge or safe haven?

Abstract: This paper studies the hedge and safe haven characteristics of Sharia compliant gold in Malaysia. Specifically, we would like to know whether the official gold and gold account traded, which complies with Islamic principles, can be used as a hedge or a safe haven for the Malaysian market. To answer this question, we examine both constant and time-varying relations between domestic stock and gold returns. The notable finding is that the official gold standard of Malaysia can act as a strong hedge relative to the use of the Islamic gold account. On the other hand, the domestic gold, in particular the Islamic gold account, does not perform attractively as a safe haven during the episodes of extreme drops in stock market. These findings show that gold does not play a major role during the stock market declines in Malaysia. Nevertheless, we note that the official gold standard performs better than the gold account.

Information Asymmetry and Capital Structure Around the World

Abstract: This paper examines the relation between information asymmetry, capital structure and the cost of capital across countries, particularly focusing on how the relation is influenced by the various aspects of the institutional environment. Results show that firms with high levels of information asymmetry tend to use more debt capital but less long-term debt, possibly because of the differential impact of information asymmetry on the cost of different types of capital. Furthermore, the positive association between information asymmetry and market leverage is more pronounced in countries with developed banking sectors or with explicit bankruptcy codes, and less prominent in common-law countries and countries with sound law enforcement or with extensive disclosure practices.

Analyst coverage and corporate social performance: Evidence from China

Abstract: This paper uses a set of unique data from Chinese listed companies to examine the influence of analyst coverage on corporate philanthropy. Results show that companies followed by more analysts engage in more philanthropy, which provides support for the reputational capital view of corporate philanthropy. The effect of analyst coverage on philanthropy is more pronounced for nonstate-owned enterprises (non-SOEs) than for state-owned enterprises (SOEs). Using the number of analysts following the firm and media coverage as alternative measures, distinguishing star analysts and ordinary analysts and applying the change model and 2SLS model with merge of brokerage houses as the instrumental variable, we confirm the robustness of the conclusions. Our research enriches the literature on corporate social responsibility and analyst coverage.

Size and price-to-book effects: Evidence from the Chinese stock markets

Abstract: We examine the size and price-to-book effects in Chinese markets. We find strong evidence for the size effect but little evidence for the price-to-book effect. We further examine these effects in the context of the monetary policy of the People's Bank of China. We find that the size effect is stronger during the time of restrictive monetary policy. We attribute these results to specific characteristics of Chinese markets, such as potentially lower bankruptcy costs of partially state-owned enterprises. We also examine the herding behavior and find significant effects between 2002 and 2012. Herding behavior decreases after 2006 suggesting that the information asymmetries in Chinese markets are decreasing as the markets mature. Herding is also a significant information variable in a four-factor conditional pricing model.

Global risk exposures and industry diversification with Shariah-compliant equity sectors

Abstract: This paper examines the risk exposures of ten major Islamic sector indexes with respect to shocks in global conventional markets. Utilizing a dynamic three-regime, three-factor risk spillover model, we generally observe positive risk exposures of Islamic equity sectors with respect to developed market shocks. Consumer Services, Oil & Gas and Technology, however, are found to exhibit negative risk exposures during crash periods, implying possible safe haven benefits for global investors. Both in- and out-of-sample results suggest that the portfolios supplemented with positions in Islamic equity sectors yield much improved risk adjusted returns, implying significant international diversification benefits. Financials, Healthcare, Telecommunication, and Utilities particularly stand out with relatively higher weights allocated in the optimal portfolios, implying the significance of these Islamic sectors in global diversification strategies.

Can governance quality predict stock market returns? New global evidence

Abstract: We develop country-level governance indices using governance risk factors and examine whether country-level governance can predict stock market returns. We find that country-level governance predicts stock market returns only in countries where governance quality is poor. For countries with well-developed governance, there is no evidence that governance predicts returns. Our findings also confirm that investors in countries with weak governance can utilise information contained in country-level governance indicators to devise profitable portfolio strategies.

The Islamic risk factor in expected stock returns: an empirical study in Saudi Arabia

Abstract: This paper investigates the Islamic-effect in a cross-sectional stock return framework, and we believe this is the first paper that investigates the Islamic-effect in such a context. We test for the existence of an Islamic-effect by looking at differences in stock returns between Islamic and conventional firms in Saudi Arabia from January 2003 to April 2011. Results indicate that there is a negative relationship between Saudi Islamic firms and average stock returns. We refer to this negative relationship as the “negative Islamic-effect.” We extend our results by using a time-series regression approach to show that the negative Islamic effect is, in fact, a common, systematic, and undiversifiable risk factor that affects the cross-sectional expected returns of Saudi common stocks. The results indicate that the Islamic risk factor (CMI) captures strong common variation in Saudi stock returns, regardless of other risk factors that are included in the model. Our findings suggest that using a four-factor model that controls for the market, size, book-to-market, and Islamic effects is more appropriate than using a single or three-factor model in Islamic finance applications, and this result has important implications for the growing Islamic finance industry around the world.

Board independence, investment opportunity set and performance of South African firms

Abstract: This study examines the association of firm performance and board independence, in concert with growth options for South African firms. It is motivated by the recent reform of the King regime of corporate governance, King III, in 2010. Archival data for firms listed on the Johannesburg Stock Exchange in both the pre-King III (2008–2009) and post-King III (2011–2012) eras are used. Cross-sectional levels and difference analyses are employed to determine whether change in board independence conjoint with growth status has a performance effect for firms. Transition from pre-to post-King III has had a positive impact on the relationship of independent non-executive directorship jointly with growth potential for firms' performance. The current study implies board independence is important. It is relevant for the attraction of foreign investment in economies such as those in the Asia-Pacific, worthy of stressing by corporate regulators and of cognizance by investors. Prior studies relating board independence to firm performance have had mixed and compromised results. This study overcomes limitations of earlier literature and addresses a key feature of corporate governance reform in a developing country.

Mergers and acquisitions: CEO duality, operating performance and stock returns in Vietnam

Abstract: The market for corporate control in Vietnam is characterized by the absence of major antitakeover provisions typically available in developed markets. The disciplinary threat of losing corporate control and additional monitoring mechanisms in the Vietnamese institutional setting reduce managerial entrenchment and other agency costs of CEO duality. This paper provides evidence in support of stewardship theory that CEO duality positively impacts M&A results in Vietnam. Specifically, CEO duality firms have significantly higher announcement abnormal returns and growth performance than those with separate CEO/Chairman roles. Robustness checks include two stage least square regressions and propensity score matching techniques.

Corporate governance, firm value and risk: Past, present, and future

Abstract: This paper, which serves as the lead article for this special issue of the Pacific-Basin Finance Journal published in conjunction with the 5th FMCG Conference 2014, reviews and comments on the current state of and potential for future research on the linkage between corporate governance and risk The corporate governance–risk nexus is founded on the fundamental premise that corporate governance regulation primarily aims at curbing opportunistic managerial behavior and excessive risk taking Accordingly, we discuss the key work on managerial risk taking, idiosyncratic risk, information risk, accounting opacity, executive compensation, directors and shareholder activism and finally governance, risk and value creation in a way that gives strong hints on possible future research directions across this broad academic landscape Such coverage dovetails nicely with the special issue content featuring twenty one papers on the theme “Governance and Risk” As such, our paper naturally concludes with a brief roadmap of the papers published within

Accounting quality in the pre-/post-IFRS adoption periods and the impact on audit committee effectiveness — Evidence from Australia

Abstract: In this paper we examine whether accounting quality has improved following the adoption of International Financial Reporting Standards (IFRS), and investigate whether audit committees are more effective in promoting accounting quality under IFRS than previous Australian GAAP. We analyse two hundred companies listed on the ASX from 2003 to 2008 and employ univariate and multiple regression models to test developed hypotheses. Our results suggest that accounting quality is not significantly enhanced subsequent to the adoption of IFRS in Australia. In addition, we find that audit committees are more effective in maintaining accounting quality under IFRS than under previous Australian GAAP (AGAAP). The findings of our study help regulators by showing the impact of IFRS and audit committee characteristics on accounting quality.

The predictive accuracy of Sukuk ratings; Multinomial Logistic and Neural Network inferences

Abstract: The development of Sukuk market as the alternative to the existing conventional bond market has risen the issue of rating the Sukuk issuance. These credit ratings fulfill a key function of information transmission in capital market. Moreover, Basel Committee for Banking Supervision has now instituted capital charges for credit risk based on credit ratings. Basel II framework allowed the bank to establish capital adequacy requirements based on ratings provided by external credit rating agencies or determine rating of its investment internally for more advance approach. For these reasons, ratings are considered important by issuers, investors, and regulators alike. This study provides an empirical foundation for the investors to estimate the ratings assigned using the approach from several rating agencies and past researches on bond ratings. It tries to compare the accuracy of two logistic models; Multinomial Logistic Regression and Neural Network to create a model of rating probability from several financial variables.

Monitoring capabilities of busy and overlap directors: Evidence from Australia

Abstract: We analyze the effects of multiple board directorships (busy directors) and multiple committee memberships of a board (overlap directors) on four board supervisory outcomes: CEO remuneration, external auditor opinion, audit fees and CEO turnover. Using a panel of 684 Australian listed firms from 2001 to 2011, we find that firms with busy directors pay high remunerations to their CEOs, and experience low CEO pay-performance and low CEO turnover-performance sensitivities. Our results also suggest that firms with overlap directors have a lower probability of receiving a qualified audit opinion and are able to negotiate lower payments, both to their CEOs and to the external auditors. These results hold for alternative specifications and proxies. Our results suggest that busy (overlap) directors are detrimental (beneficial) to the monitoring capability of the board and its committees. Finally, our findings suggest that the negative monitoring effect of busy directors are predominantly observed in large firms where over-commitment problems are severe, while the positive monitoring effects of overlap directors are observed in small firms where directorial positions are less time demanding.

Industry herding and momentum strategies

Abstract: This paper evaluates the impact of industry herding on return momentum. While the findings support that winner industries outperform loser industries in subsequent months, we find that the profitability of industry momentum strategies depends on the level of herding in an industry. Loser industries with high level of herding yield significantly lower subsequent returns than loser industries with low level of herding while no significant difference in subsequent returns is observed for winner industries across low and high herding levels. The asymmetry in the relationship between herding and momentum returns is in fact the driving factor behind profitable, zero-cost momentum strategies and suggests that the level of herding in an industry must be considered in the implementation of industry momentum strategies.

Do order imbalances predict Chinese stock returns? New evidence from intraday data

Abstract: In this paper we examine whether order imbalances can predict the Chinese stock market returns. We use intraday data, a panel data predictive regression model that accounts for persistent and endogenous order imbalances and cross-sectional dependence in returns, and show that order imbalances predict stock returns from 1-minute trading to 90-minute trading. On the basis of this predictability evidence using multiple trading strategies we show that profits persist during the day. These results imply that a source of Chinese market inefficiency is order imbalances.

Price discovery and regime shift behavior in the relationship between sharia stocks and sukuk: A two-state Markov switching analysis

Abstract: The main purpose of this study is to analyze the interactive linkages between the sharia stocks and sukuk (Islamic bonds) in the Gulf Cooperation Countries (GCC), using the bivariate two-state Markov switching regime EGARCH of Henry (2009). The results support the presence of two different regimes in both the conditional mean and the conditional variance of those sharia stock and sukuk returns. The first regime corresponds to a high mean–low variance regime and the second is characterized by a low mean–high variance. Furthermore, our results point out that the linkages between the sharia stocks and sukuk GCC markets are also regime-dependent and the sharia stock market volatility reacts asymmetrically to events in the sukuk markets. Additionally, we provide to the literature new evidence which asserts that changes in the GCC sukuk price index have a significant impact on the probability of transmission across regimes. Our findings have several economic and managerial implications for Islamic portfolio managers, Islamic hedge funds, stock market regulators, and policy makers.

The market timing ability and return performance of Islamic equities: An empirical study

Abstract: This study investigates the determinants of return performance of Islamic equity indices (IEIs). Empirical evidence suggests that the selection of securities and rebalancing of funds to comply with Islamic screening standards may result in superior returns for the investing public. We employ an extended four factor dynamic condition correlation GARCH model to a sample of IEIs from different regions for the period 2002–2013. The empirical results indicate a statistically significant difference between IEIs from developed markets and those from emerging markets during the sample period. Findings suggest that Shari'ah screening helps IEIs to select securities of firms that are not financially distressed, are growth oriented and are exhibiting a positive momentum. We further investigated whether Shari'ah-based screening provides any superior market timing ability over conventional benchmark indices using both parametric and non-parametric approaches. Market timing results showed that the majority of IEIs have negative market timing ability reflecting the conservative nature of Islamic equity investments whereby Shari'ah discourages investment in equities of highly leveraged corporations.

Accrual-based and real activity earnings management at the back door: Evidence from Chinese reverse mergers

Abstract: We examine how Chinese reverse merger (RM) firms trade off and conduct income-increasing earnings management through accrual-based and real activities manipulation strategies. We find that Chinese RM firms engage in both real activities and accrual-based manipulation at higher levels than non-Chinese RM firms, regular US firms and other Chinese US-listed firms. Further analysis suggests that Chinese RM firms use real activities and accrual-based manipulation as substitutes and tend to transition to real activities management in the years after a reverse takeover. Big 4 auditors can effectively constrain both real activities and accrual-based earnings management in Chinese RM firms. We also find that accruals manipulation is more costly relative to real activities management in the short term because it predicts changes in post-acquisition operating performance in Chinese RM firms. Overall, the results provide practical implications to regulators, investors and auditors on the channels through which Chinese RM firms manipulate earnings and the economic consequence of those manipulations.

Culture, agency costs, and governance: International evidence on capital structure

Abstract: We examine social characteristics (individualism and risk aversion) and their interaction with firm governance and capital structure across the G20 countries from 1995 to 2009 using roughly 13,000 firms. We show that higher levels of individualism are associated with increased firm use of debt and lower cost of capital, whereas higher risk aversion has the opposite effects. Better firm-level governance substantially reduces these cultural effects, as does larger firm size, and less research-intensity at the firm. The results show that capital structure in emerging markets is considerably less affected by national culture relative to developed countries. To address endogeneity concerns, we show our results hold after using a propensity score matching procedure.

Investor characteristics and the disposition effect

Abstract: This paper studies the prevalence of the disposition effect in individual traders in the Australian equities market. In particular, we examine the effect of demographics and Chinese ethnicity on trading behaviour. The relationship between ethnic background and trading behaviour has not previously been studied in a multicultural market. Robust evidence of the disposition effect is found across different investor categories using a large sample of individual investor accounts at a leading local retail brokerage. However, the disposition effect is more prevalent in investors of Chinese background, as well as women and older investors. Further, other behavioural biases are found to be predictors of the disposition effect, including frequent trading, round size trading heuristics, and the investor's level of portfolio diversification.

Common deviation and regime-dependent dynamics in the index derivatives markets

Abstract: We analyze high-quality intraday data for KOSPI 200 futures and options to examine a common deviation and regime-dependent price dynamics in the index derivatives markets according to reliability of the common deviation. We find common deviation in the futures and options markets. In terms of the dynamics of asset prices and trading volumes, the linkage between the derivatives (i.e., futures and options) markets is stronger than the relationship between the underlying stock market and the derivatives markets. Whereas the deviations between the derivatives markets and the stock market exhibit an inverted U-shaped intraday pattern, the pattern of the deviation between futures and options markets is relatively flat. The deviations between the derivatives markets and the stock market are tied to trading activities in the same direction. When we identify regimes based on the difference between deviations in derivatives markets, defined as the relative deviation, the common deviation is significantly corrected only when the relative deviation is moderate. Although the stock market does not lead the derivatives markets when the relative deviation is mild, there is a bi-directional information flow between the derivatives markets and the stock market with extreme relative deviation. The result is still consistent in subsample analysis, though we find the informational effect of stocks becomes faint over time. A sudden change in the relative deviation is induced by options trading rather than futures trading.

Combining momentum, value, and quality for the Islamic equity portfolio: Multi-style rotation strategies using augmented Black Litterman factor model ☆

Abstract: This study constructs active Islamic portfolios using a multi-style rotation strategy, derived from the three prominent styles, namely, momentum, value, and quality investing. We use the stocks that are consistently listed in the U.S. Dow Jones Islamic index for a sample period from 1996 to 2012. We also include two macroeconomic mimicking portfolios to capture the premiums of industrial production growth and inflation innovation, accommodating the economic regime shifts. Based on the information coefficients, we find the six-month momentum and the fractal measure as momentum factors; the enterprise yield (gross profit/TEV) and the book to market ratio as valuation factors; the gross profit to total assets, the return on capital, and the scaled total accruals as quality factors. We further construct active portfolios using the augmented Black Litterman (ABL) factor model to avoid the factor alignment problem, with the factor views predicted using Markov Switching VAR, MIDAS, and Bayesian Model Averaging. The out-of-sample performance of our portfolios can produce information ratios of 0.7–0.8 over the composite indices, and information ratios of 0.42–0.48 over the style indices, with the annualized alphas of 10–11%. Even when we put the constrained tracking error of 1% over the benchmark, our portfolios still produce information ratios of 0.9–1.2 before transaction costs, and 0.6–0.8 after transaction costs. We provide intuitive explanations for each premium changing over time, and suggest the promising strategy for Islamic equity investors to outperform the market.