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Separating equilibria, underpricing and security design
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Publication details
| Journal | Journal of Financial Economics |
|---|---|
| Date | Accepted/In press - 20 Jul 2021 |
| Date | E-pub ahead of print (current) - 22 Jul 2022 |
| Date | Published - 1 Sep 2022 |
| Issue number | 3 |
| Volume | 145 |
| Number of pages | 14 |
| Pages (from-to) | 788-801 |
| Early online date | 22/07/22 |
| Original language | English |
Abstract
Classical security design papers equate competitive capital markets to securities
being fairly priced in expectation. We revisit Nachman and Noe (1994)'s adverse-
selection setting, modeling capital-market competition as free entry of investors and allowing firms to propose prices for their securities, as happens in private securities placements and bank lending. We identify equilibria in which high types issue underpriced debt, which yields positive expected prots to uninformed lenders, while low types issue steeper securities, such as equity. In addition, pooling equilibria exist in which firms issue underpriced debt. Introducing pre-existing capital structures provides further foundations for pecking-order theories of external finance.
being fairly priced in expectation. We revisit Nachman and Noe (1994)'s adverse-
selection setting, modeling capital-market competition as free entry of investors and allowing firms to propose prices for their securities, as happens in private securities placements and bank lending. We identify equilibria in which high types issue underpriced debt, which yields positive expected prots to uninformed lenders, while low types issue steeper securities, such as equity. In addition, pooling equilibria exist in which firms issue underpriced debt. Introducing pre-existing capital structures provides further foundations for pecking-order theories of external finance.
Bibliographical note
© 2021 Elsevier B.V. This is an author-produced version of the published paper. Uploaded in accordance with the publisher’s self-archiving policy.
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