Christian Opp


Christian C. G. Opp

The Wharton School
University of Pennsylvania

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Curriculum Vitae (link)

 

Research Interests:

Financial institutions and asset pricing

 


Publications:

“Rating Agencies in the Face of Regulation,” with M. Opp and M. Harris, Journal of Financial Economics 108 (2013), pp. 46-61 (link)

 

Abstract

This paper develops a theoretical framework to shed light on variation in credit rating standards over time and across asset classes. Ratings issued by credit rating agencies serve a dual role: they provide information to investors and are used to regulate institutional investors. We show that introducing rating-contingent regulation that favors highly rated securities may increase or decrease rating informativeness, but unambiguously increases the volume of highly rated securities. If the regulatory advantage of highly rated securities is sufficiently large, delegated information acquisition is unsustainable, since the rating agency prefers to facilitate regulatory arbitrage by inflating ratings. Our model relates rating informativeness to the quality distribution of issuers, the complexity of assets, and issuers' outside options. We reconcile our results with the existing empirical literature and highlight new, testable implications, such as repercussions of the Dodd-Frank Act.

 

Working Papers:

“Venture Capital Cycles," March 2014

Abstract

I develop a dynamic general equilibrium asset pricing model that can address a range of empirical regularities related to venture capital intermediation, some of which often have been taken as evidence of investor irrationality. The model characterizes the joint equilibrium dynamics of VC investments' risk premia, net-alphas, fees, fund flows, IPO volume, and idiosyncratic failure risk, as well as those objects' comovement with macroeconomic risks. In the model VC firms' time-varying screening and funding choices feed back into VC fund vintages' alphas and risk exposures. Fragility in VC funding during downturns creates endogenous barriers to entry which benefits those ventures that have obtained funding during previous booms. This effect lowers venture investments' low-frequency risk exposures in booms and can rationalize lenient funding standards, high IPO volume, high idiosyncratic failure risk, and high fund inflows despite low future expected returns.

 

“Learning, Active Investors, and the Returns of Financially Distressed Firms," December 2013 * Winner of the Marshall Blume Prize in Financial Research [First Prize]

Abstract

I develop a tractable dynamic asset pricing model to study expected returns of financially distressed firms in the presence of learning about firm fundamentals and endogenous information acquisition by active investors. The model reveals that learning and information acquisition critically affect low-frequency risk exposures close to default and can, counter to standard models, rationalize low and even negative expected return premia for firms with high default risk. Similar to Schumpeter's (1934) argument that recessions have a positive, cleansing effect on the economy, the model reveals that equity holders naturally benefit from an increased speed of learning about truly insolvent firms in downturns, which positively affects the value of their abandonment option in these times. Equity holders' option value is similarly enhanced by the ability to partially free-ride on active investors' information acquisition. Learning thus dynamically affects distressed firms' exposures to business-cycle frequency risks and may generate striking, momentum-type dynamics in risk premia.

 

Higher Capital Requirements, Safer Banks? Macroprudential Regulation in a Competitive Financial System," with M. Harris and M. Opp, March 2014

Abstract

We propose a tractable general equilibrium framework to analyze the effectiveness of bank capital regulations when banks face competition from other investors, such as institutions in the shadow-banking system. Our analysis reveals that competition can induce a non-monotonic relationship between regulatory capital requirements and banks' risk taking, that is, we show conditions under which there exist ranges of increases in capital requirements that cause more banks in the economy to engage in value-destroying risk-shifting. In our general equilibrium setting capital requirements endogenously affect both the banking sector's total funding capacity and banks' ranking of investment strategies. Competition for good borrowers from outside investors limits banks' profits from socially valuable intermediation and can increase incentives to engage in risk-shifting. The model generates a range of implications for optimal bank capital regulation and its dependence on comparative advantages of various institutions in the financial system. When capital requirements have a non-monotonic effect on risk-shifting, regulators may have to impose large increases in capital requirements that push a substantial fraction of financing activity outside of the regulated banking system.

 

”Adverse Selection and Intermediation Chains," with V. Glode, October 2013

Abstract

We propose a parsimonious model of over-the-counter trading with asymmetric information to rationalize the existence of intermediation chains that stand between the buyers and sellers of assets. Trading an asset through multiple intermediaries can preserve the efficiency of trade by spreading an adverse selection problem over many sequential transactions. An intermediation chain that involves heterogeneously informed agents helps ensure that the information asymmetries counterparties face in each transaction are small enough to result in socially efficient trading strategies by all parties involved. Our model makes novel predictions about rent extraction and socially optimal network formation when adverse selection problems impede the efficiency of trade.

 

“Cycles of Innovation and Financial Propagation,” January 2010

Abstract

Episodes of boom-bust cycles tend to occur in sectors with recent arrivals of new technologies and are often related to excessive funding by the financial sector. In this paper, I develop a dynamic general equilibrium model consistent with a role for the financial sector in propagation during such episodes. I extend a standard Schumpeterian growth model by incorporating (a) a monopolistically competitive financial sector and (b) time-varying technological conditions in real sectors. I identify two propagation channels. The first operates through financial firms' acquisition of sector-specific knowledge (skill channel); financial firms chase "hot sectors" and thereby amplify fluctuations. The second channel originates in an interaction between competition in the financial sector and patent races in product markets (competition channel). Financial firms' temporary competitive advantages in access to new ventures imply market segmentation: financial firms maximize the surplus generated by the client firms they can currently attract, anticipating competing financial firms' future screening and funding decisions. Relative to the Pareto optimum, the competition channel generates overinvestment in sectors with temporarily improved technological conditions; excessively high growth in these sectors comes at the cost of lower growth in the economy as a whole. The model links financial propagation to time variation in the cross section of asset prices. Exposures to aggregate risk dampen amplification effects.

 

Intertemporal Information Acquisition and Asset Market Dynamics”  (Technical Appendix), September 2008

 

Abstract

I analyze the links between intertemporal information acquisition and the dynamics of asset markets. In my model, investors are Bayesian learners who optimally choose how much to consume, how much to invest, and how much information to acquire. The model predicts that investors acquire more information when future capital productivity is expected to be high, the cost of capital is low, new technologies are expected to have a persistent impact on productivity, and the scalability of investments is expected to be high. My results shed light on the economic mechanisms behind various dynamic aspects of information production by the financial sector, such as the sources of variation in returns on information acquisition for investment banks or private equity funds.

 

 

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