On the Relation between Financial Leverage and Stock Returns (Job Market Paper)

Financial leverage should be positively related to expected equity returns. However,  empirical evidence suggests this is not true. In this paper I decompose expected  equity returns according to their exposure to cash flow and discount rate risk. I find that firms with low leverage have lower cash-flow risk and higher discount rate risk than firms with high leverage. Since cash flow risk typically has a higher price of risk, this finding helps to explain the financial leverage puzzle. I then investigate the determinants of risk exposures and the link to capital structure. I show that low leverage firms are more exposed to news about distress costs, debt capacity, and news about the economy wide credit spread, which generally increase sensitivity to market´s discount rate news. Conversely high leverage firms are more exposed to news about default probabilities and profitability, which seem more closely connected to innovations in market cash flow.

Market Liquidity and Conditional Asset Pricing Models (under review)

In this paper, I explore the ability of market liquidity, used as an instrument in conditional versions of asset pricing models, in explaining the cross section differences in equity returns. Unlike other studies, which use macroeconomic variables as instruments, liquidity is seen as a measure that summarizes the trading process and is closely related to agents’ own behavior in revealing much of their expectations about the future. Using four different proxies for market liquidity linked to its different dimensions (bid and ask spread, share turnover, Pastor and Stambaugh return reversal , and Sadka) in a test of 30 portfolios sorted by size, book-to-market and momentum, I show that the conditional version of CAPM works very well, mostly with return reversal and share turnover measures, which also means the relative importance of those specific aspects of liquidity in asset pricing.

Monetary Rules and Fiscal Constraints under the Inflation Targeting Regime in Brazil

(in Portuguese)

This paper develops a rational expectations model based on Batini and Haldane (1999) to evaluate whether monetary rules derived under the inflation targeting regime could be adapted to constrain the public debt explosive deviation paths. In emerging market countries, this perverse dynamics of public debt is the main reason of the recent crisis. Treating the risk premium for the uncovered interest parity as endogenous and defining an augmented monetary rule for the Central Bank, we can study the short and the long run behavior of the public debt to GNP ratio, under different scenarios. The results show that despite its potential solvency in the long run, public debt still could be a concern in the short run, even if the monetary policy rule of the Central Bank includes preventative reactions to public debt explosive deviation paths and the policy makers set the interest rates based on inflation forecasts.

Inflation Expectations and Implied Inflation: Does market driven research provide precise measures?” (with Claudio Barbedo and Flavio Val)

Adjustment Costs and the Dynamics of Leverage Ratios in Brazilian Firms (with Guilherme Lelis)

Governance Mechanisms and Stock Returns in Brazil (with Gustavo Araújo and André Carvalhal-da-Silva)

The Effects of Governance Mechanisms on Capital Structure Speed of Adjustment