How Free is Free? Retail Trading Costs with Zero Commissions, with Connor Kasten and Eric K. Kelley.  The Journal of Banking and Finance. forthcoming. (2022 FMA Market Microstructure Best Paper Award Semi-finalist)

We examine the economics that underlie retail trading costs around discount brokers’ widespread adoption of zero commission trading in October 2019. Our analysis of participating brokers’ Rule 606 filings and financial statements reveals little change in payment for order flow, which suggests brokers absorbed the cost of eliminating commissions in a competitive environment. We then perform a difference-in-differences analysis of effective spreads and report economically trivial changes in retail execution costs around the commission change. Finally, we assess the total trading costs of an aggregate retail portfolio compared to a host of counterfactuals. We find that following the zero-commission change, total retail transaction costs dropped substantially even under the extreme counterfactual that these traders pay exchange quoted spreads and receive zero price improvement. Our findings support the brokerage industry’s claim that dropping commissions helped retail investors and should ease regulators’ concerns to the contrary.

Media Coverage

• Broker-Dealers and Payment for Order Flow, April 2nd, 2021, Congressional Research Services

• Proposed Rule: Disclosure of Order Execution Information, January 20, 2023, Securities and Exchange Commission

Bank Risk Management and Systemic Risk: Global Evidence, with Larry Fauver, Lauren Milbach, and Alvaro G. Taboada. 

We examine the impact of banks’ risk management function on systemic risk. Using a global sample of banks from 2002 through 2020, we document improvements in banks’ risk management practices in the post-global financial crisis (GFC) period. We find that stronger risk management mitigates systemic risk. Using the staggered enactment of bank risk management reforms since the GFC across countries as a quasi-natural experiment, we provide evidence that the relation is causal. We further document that better risk management reduces tail risk and has positive valuation effects, suggesting that these are likely channels through which systemic risk is mitigated.

Bank Regulation, Internal Governance and Bank Risk: Global Evidence, with Larry Fauver, Lauren Milbach and Alvaro G. Taboada.

We examine the joint effects of bank regulation and internal governance on bank stand-alone and systemic risk. Using a broad international sample, we find that banks with better governance in countries with better regulatory quality have lower risk. These results are stronger in more developed countries and in countries with less concentrated banking sectors. We observe a positive relation between governance and bank risk in the pre-global financial crisis period but document a reversal post-crisis. Overall, our results suggest that bank regulation exerts a positive influence on bank governance, while mitigating the risk-increasing incentives created by shareholder-friendly governance in banks.

Betting on Zero: Risk Management in U.S. Banks Around the Silicon Valley Banking Crisis

I examine the impact of risk management on the performance of publicly traded U.S. banks during the Silicon Valley Bank (SVB) crisis. Using a novel dataset of risk management characteristics that measure both the presence and strength of Chief Risk Officers and board-level risk committees, I find no evidence of a link between bank risk management and performance during the crisis. Tests on bank behavior before the crisis show that banks with stronger risk management hold larger amounts of interest rate derivatives for hedging purposes. However, this does not translate into better performance or lower uninsured deposit outflows during the crisis. Examining risk management within a subsample of banks with the greatest exposure to interest rate and deposit outflow risk confirms these results.