We build a dynamic model to link two empirical patterns:\ the negative failure probability-return relation (Campbell, Hilscher, and Szilagyi, 2008) and the positive distress risk premium-return relation (Friewald, Wagner, and Zechner, 2014). We show analytically and quantitatively that (i)...

We develop and estimate a dynamic model of risk-shifting over the business cycle. First, equity holders with Epstein-Zin preferences increase their taking of idiosyncratic risk substantially more than the standard model in repeated games, because they perceive the arrival probability of bad...

By introducing operating inflexibility into the standard capital structural model, we build a two-regime model to show that the negative relation between profitability and financial leverage is not evidence against the trade-off model. Whereas firms increase their contractual operating costs...

Using hand-collected data on financial asset portfolios, we investigate corporate risk-taking through risky financial investments. We find that distressed firms with large short-term liabilities substantially increase their investments in risky financial assets, including corporate debt, equity,...

Not really. Decomposing firm size (i.e., market equity) into horizon-based components, we find that size five years ago explains 80% of the current size but has little predictive power for future returns. In contrast, the change in size over the prior two to five years explains only 18% of the...

We present a rationale for bidder termination provisions that considers their effect on bidders' and targets' joint takeover gains. The provision's inclusion can create value by enabling termination when the target becomes less valuable to the bidder than on its own, but creates a trade-off...

We develop a general model to price VIX futures contracts. The model is adapted to test both the constant elasticity of variance (CEV) and the Cox–Ingersoll–Ross formulations, with and without jumps. Empirical tests on VIX futures prices provide out-of-sample estimates within 2% of the...

Operating leverage increases profitability and reduces optimal financial leverage. Thus, operating leverage generates a negative relation between profitability and financial leverage that is thought to be inconsistent with the trade-off theory, but is commonly observed in the data. We...