I. Security Design and Externalities of Financial Contracts

1. The Externalities of Fire Sales: Evidence from Collateralized Loan Obligations (JMP)

BlackRock Applied Research Award Winner, ECB’s Young Economists’ Competition Finalist, Qatar Centre for Global Banking & Finance Young Economist Prize Runner-Up, WFA PhD Candidate Award For Outstanding Research, Stigler Center PhD Dissertation Award, European Systemic Risk Board Working Paper

Abstract: This paper uses an exogenous industry shock to demonstrate that covenants in debt markets cause spillovers and trigger liquidations of unrelated loans in loan portfolios. Specifically, I show that following a negative shock to the oil and gas (O&G) industry, collateralized loan obligations (CLOs) with exposure to O&G loans are pushed closer to their covenant thresholds and sell non-O&G loans in the secondary market to alleviate these constraints. These sales exert price pressure on the securities of non-O&G firms, creating market dislocations. The erosion in the liquidity positions of exposed firms also spills over into real economic activity. Hence, liquidations originating from covenants may exacerbate credit crunches, by propagating shocks through capital markets.

2. Monitoring with Small Stakes (with Sheila Jiang and Douglas Xu)

Abstract: This paper proposes a mechanism to address the issue of "monitoring with small stakes" in syndicated lending. We identify two sources that incentivize creditor monitoring: skin-in-the-game and rent extraction from renegotiation. Renegotiation-based rent extraction serves a substitute to banks' loan stake for monitoring incentives, facilitating institutional investors’ participation in syndicated lending. We use the passage of a tax policy that exogenously reduced renegotiation frictions to identify this channel. Our findings suggests that a less frictional renegotiation environment leads to more diligent monitoring, smaller bank shares in new loans and improved borrower performance, particularly in pre-existing deals with lower bank skin-in-the-game.

3. Financial Covenants and Fire Sales in Closed-End Funds (Dissertation Chapter 2), Mangement Science, 2024

Abstract: Closed-end funds are thought to have negligible fire sale risk as they have stable funding. However, I show that embedded covenants can generate price pressure in collateralized loan obligation (CLO) funds, even though such funds are closed end. Loans held by constrained CLOs report significantly lower cumulative returns than loans held by unconstrained CLOs. This can be explained by contractual arbitrage, a practice by which CLOs exploit loopholes in the design of covenants to mechanically loosen their covenants and avoid covenant breaches. Covenant breaches are associated with significant pecuniary and non-pecuniary costs, affecting CLO compensation, reputation and career prospects. I show that when covenants breaches are imminent, managers fire sell distressed loans. Hence, I demonstrate a channel by which closed-end funds can also create fire sale risk, akin to their open-end counterparts.

4. The Anatomy of Corporate Securitizations and Contract Design (Dissertation Chapter 1), Journal of Corporate Finance, 2023

Abstract: Collateralized loan obligations (CLOs), intermediaries situated between investors and traditional banks, play an increasingly central role in the provision of credit to constrained corporations, holding as much as 75% of all new institutional leveraged loans. Despite their ascendancy in the risky corporate credit market, there has been little academic research on the CLO market. This paper provides a comprehensive overview of the design and structure of the CLO market, describing the general macroeconomic milieu that has facilitated the rapid growth of the market, the mechanics therein, as well as recent risks that have emerged. Understanding the anatomy and dynamics of CLOs is paramount for developing insights into the role of non-bank financial intermediaries in financial markets.

II. Empirical Macro Finance

5. NEW: The Economics of Market-Based Deposit Insurance (with Edward Kim and Amiyatosh Purnanandam)

Abstract: We examine the financial stability implications of deposit insurance using a recent financial innovation: reciprocal deposits. Banks can significantly increase deposit insurance coverage through the reciprocal deposit network, where they break up large deposits and place them with other banks in an offsetting manner. With almost $450 billion in outstanding contracts under this arrangement, reciprocal deposits have become an important source of funding for the U.S. banking sector. Using network presence as an instrument, we show that enhanced insurance coverage allowed banks to retain deposits following the 2023 banking crisis. Network banks pay lower interest rates on their deposits, indicating depositors’ willingness to accept lower rates for higher insurance access. Enhanced coverage also has implications for competition and bank risk-taking; we find evidence that network banks grow larger and increase their exposure to interest rate risk.

6. NEW: Diverging Banking Sector: New Facts and Macro Implications (with Tyler Muir and Jinyuan Zhang)

Abstract: We document the emergence of two distinct types of banks over the past decade: high rate banks, which align deposit rates with market interest rates, hold shorter-term assets, and primarily earn lending spreads by taking more credit risk through personal and business loans; and low rate banks, which offer interest-insensitive, low deposit rates, hold a larger proportion of long-term securities (e.g., MBS), and make fewer loans. This divergence in the banking sector leads to a significant shift of deposits towards high rate banks as interest rates rise, thereby reducing the sector’s overall capacity for maturity transformation and increasing its exposure to credit risk, particularly through personal loans. Our evidence suggest that technological advancements in banking spurred the divergence: high rate banks operate primarily online and attract less sticky depositors. In response, low rate banks lower rates through the retention of relatively stickier depositors.

7. Canary in the Coal Mine: Bank Liquidity Shortages and Local Economic Activity (with Rajkamal Iyer and Nikos Paltalidis)

Abstract: This paper investigates the relation between bank liquidity and local economic activity. We find that an increase in deposit rates offered by banks within a geographic region is associated with contractions in economic activity. As a region heads to an economic downturn, deposit growth slows down, prompting banks to increase deposit rates to support their balance sheet. This increase in deposit rates reflects the liquidity squeeze experienced by banks due to deteriorating economic conditions, which in turn serves as an indicator of an impending economic contraction.

8. The Geography of Bank Deposits and the Origins of Aggregate Fluctuations (with Seongjin Park and Nishant Vats)

Abstract: What are the aggregate effects of deposit shocks? Using the granular-instrumental-variable methodology, we identify the deposit elasticity of economic growth as 0.87 and the money multiplier as 1.18. We construct deposit shocks by combining a new fact regarding the within-bank geographic concentration of deposits -- 30% of deposits are concentrated in a single county -- with local natural disasters. Large natural disasters in deposit-concentrated areas negatively affect bank deposits and amplify through bank internal capital markets. These shocks can explain 3.30% of the variation in economic growth. Lender and borrower-side frictions are critical for the aggregation of local shocks.

9. Banking Networks and Economic Growth: From Idiosyncratic Shocks to Aggregate Fluctuations, [R&R at AEJ: Macroeconomics], (with Nishant Vats)

Abstract: This paper explores the transmission of non-capital shocks through banking networks. We construct non-capital (idiosyncratic) shocks, using labor productivity shocks to large firms. We document a change in the relationship between foreign idiosyncratic shocks and domestic economic growth between 1978 and 2000. Contemporaneous changes in banking integration drive this phenomenon as geographically diversified banks divert funds away from economies experiencing negative shocks towards other unaffected economies. Our granular-IV estimates suggest that a 1% increase in bank loan supply is associated with a 0.05-0.26 pp increase in economic growth. Lastly, this can potentially explain the Great Moderation.

III. Finance and Development

10. What Explains Geographic Variation in Corporate Investment? (with Nishant Vats)

Abstract: We show that history can explain the geographic concentration of investment over and above traditional agglomerative forces, geography, and expectations. We use spatial variation in direct and indirect British rule to identify differences in historical circumstances. Using this within-country variation in historical circumstances, combined with a local identification approach and instrumental variable strategy, we explain the spatial differences in investment. Differences in historical origins can explain 13% of total geographic variation in investment. Moreover, investment is 8-10% lower in direct ruled areas. Our results indicate that history can have long-run consequences through its effect on economic organizations and state capacity.