Three Essays in Financial Economics

Abstract

In my first essay, I develop a model of investor behavior around prescheduled macroeconomic announcements to analyze the optimal allocation of investor attention between systematic and idiosyncratic risk factors when a macroeconomic announcement is anticipated. Skilled investors, when producing information under a limited attention capacity, optimally allocate more of their attention to analyzing the idiosyncratic risk factor when they anticipate more precise public information about the systematic risk factor from the macroeconomic announcement. Consequently, my model predicts that, the more informative (precise) the macroeconomic announcement is expected to be about the underlying risk factors, ceteris paribus, the more uncertainty pre-announcement, the more resolution of uncertainty post-announcement, and the higher the trading volume around the announcement on the market index. My empirical analysis of trading by investors around both FOMC and CPI announcements support my model's predictions. In particular, my empirical findings are consistent with model predictions about the effect of the anticipated macroeconomic announcement precision on investor attention allocation, the effect of investor attention on the levels of pre-announcement and post-announcement trading volumes, and the effect of investor attention on the ratio of post-announcement trading volume over the pre-announcement trading volume. In my second essay, we analyze, theoretically and empirically, how investor attention affects the stock market reaction to innovation announcements. In a dynamic model with limited investor attention, we show that the immediate reaction to innovation announcements increases, while the post-announcement stock return drift decreases, in investor attention. We empirically confirm our model predictions using a matched sample of pharmaceutical industry patent grant and subsequent FDA drug approval announcements and also a general USPTO patent sample. We show that post-announcement drift has predictive power for firm growth, profitability, and productivity, drawing implications for enhancing measures of patents' economic value and for trading strategy. In my third essay, we analyze, theoretically and empirically, the implications of a fraction of investors in the equity market paying only delayed attention to SEO announcements. We first show theoretically that, in the above setting, the announcement effect of an SEO will be positively related to the fraction of investors paying attention to the announcement and that there will be a post-announcement stock-return drift that is negatively related to investor attention. In the second part of the paper, we test the above predictions using the media coverage of firms announcing SEOs as a proxy for investor attention, and find evidence consistent with the above predictions. In the third part of the paper, we develop and test various hypotheses relating investor attention paid to the issuing firm (between the announcement and the equity issue) to various SEO characteristics. We empirically show that SEO underpricing, institutional investor participation in SEOs, and the post-SEO equity market valuation of firms are all positively related to investor attention. The results of our identification tests show that the above results are causal.