Taking the Road Less Traveled? Market Misreaction and Firm Innovation Directions

(with Zunda Winston Xu), August 2024

Best Paper Award, USC Marshall PhD Conference in Finance

Presentations: AFA Regular Program (2025), FMA (2024), EGSC (2024), NFA PhD Session (2024), MFR Summer Session Poster (2024), ESSFM Evening Seminar (2024), USC Marshall PhD Conference (2024)

We propose that public investors react differently to patent issuance depending on its novelty, and these misreactions exert real impacts on the firms' future innovations. First, using textual analyses of patent documents to measure patent novelty, we find that investors underreact to the issuance of path-breaking innovations while overreact to the trend-following ones. (Non-)novel issuance predicts a return drift (reversal) of around 1% in two years. Novel patent issuance predicts lower risk but positive forecast errors, consistent with a non-risk-based novelty mispricing mechanism. A bounded-rationality model, where investors cannot figure out the true novelty of a patent at issuance due to cognitive limits, explains the empirical patterns well. Second, using exogenous distraction shocks, such as earthquakes, we present causal evidence that following disappointing returns, novel firms shift innovation directions from novelty-seeking to copycatting. The findings highlight that investors' misreactions to patent novelty impact firms' future innovation directions by steering them away from higher-valued, groundbreaking research.

Associative Memory is Machine Learning

(with Leland Bybee), September 2023

We document a relationship between memory-based models of beliefs and a general class of kernel methods from the statistics and machine learning literature. Motivated by this relationship, we propose a new form of memory-based beliefs which aligns more closely with the state of the art in the machine learning literature. We explore this approach empirically by introducing a measure of “narrative memory”– similarity between states of the world based on similarity in narrative representations of those states. Using textual embeddings extracted from conference call transcripts, we show that our estimates of memory-based beliefs explain variation in errors in long-term growth forecasts of IBES analysts. We conclude by discussing implications of this relationship for the literature on memory-based models of beliefs.

The Risk and Return of Impact Investing Funds

(with Jessica Jeffers and Kelly Posenau), August 2024

Journal of Financial Economics 161: 103928 (November 2024). Replication Package, Online Appendix.

We provide the first analysis of the risk exposure and risk-adjusted performance of impact investing funds, private market funds with dual financial and social goals. We introduce a dataset of impact fund cash flows and exploit distortions in VC performance measures to characterize risk profiles. Impact funds have a lower market β than comparable private market strategies. Accounting for β, impact funds underperform the public market, though not necessarily more so than comparable strategies. We consider alternative pricing models, accounting for sustainability and emerging markets risk. We show investors’ wealth portfolios and taste change the perceived financial merit of impact investing.

Context Dependence in Managerial Expectations

June 2024

Financial Event Studies

(with Paul Goldsmith-Pinkham)

What do Investors Overreact to? An Empirical Analysis of Long-Term Earnings Growth Forecast

November 2022