Listing of common stock on an exchange is believed by many to have a positive value for the firm. One implication of purported advantages has been improvement in the price of the stock when it is listed. Another advantage to an investor could be a reduction in the risk level of a security through trading location changes. The purpose of this research is to investigate the effect upon a security's risk level when its trading location is transferred to the New York Stock Exchange.

The basic thesis of this paper can be summarized very briefly. The regulatory structure and set of laws and procedures that have served us well in dealing with the failures of small banks in the past are not optimal in a world in which large banks can fail. The paper suggests some alternative means of improving the situation and stresses that any future discussions concerning reorganization of the regulatory agencies should keep in mind the need to improve our ability to handle the large bank failure.

The question of whether large banks should be allowed to fail brings us face to face with a conflict between two social goals. On the one hand, the goal of optimal resource allocation suggests that even very large banks, like other firms, should be allowed to fail. On the other hand, the stabilization goal suggests that, given the present institutional structure, failures of large banks should be prevented lest they lead to runs on other banks and to a significant reduction in the money stock. The solution suggested here for this conflict is small changes in the institutional structure.

In a recent issue of this journal, Linke and Kim [1], hereafter denoted as L-K, have shown that for finite-time horizons in excess of one period and if, over the same period, the firm's ratio of debt to equity is held constant, the firm's overall required rate of return could be expressed as a weighted average cost of capital. In their proofs L-K distinguish between firms engaging in no financing over the relevant horizon (the nonfinancing case), and those in which such financing is permitted to take place. In the latter case, their procedure is to derive proofs for new debt and equity financing cases separately. In all cases their proofs are correct. However, we wish to draw attention to an implied restriction which must hold in order for their proofs in the financing cases to be valid. Our objective is to set forth a proof which allows both new debt and equity financing simultaneously, and most importantly, which is also free of the implied restriction.

The structure and analytical representation of investors' utility-of-wealth functions has long been of interest in portfolio theory. In proposing convenient analytical utility functions most economists have used (i) constant elasticity (power) functions, (ii) the negative exponential function. Both (i) and (ii), of course, restrict the preference structure; Moreover, one may object to (i) because such functions are not uniformly bounded on [0, ∞). And, as has been shown by Arrow [1], this is undesirable in an axiomatic system. The negative exponential function has no such disadvantage, but objections may be raised on empirical grounds. Thus, no simple convenient specification of bounded utility functions on [a, ∞) is available. In fact, even polynomials in wealth of arbitrary order are restrictive since they immediately impose the requirement that moments of wealth are finite. (If the polynomial is of order n, then the nth moment must be finite.)

In their comment on a paper by Porter, Wart, and Ferguson [7], Professors Frankfurter and Phillips [2] have raised two serious objections to “any attempt to compare and contrast SD and EV efficiency criteria on empirical grounds.” Essentially, they have argued that empirical comparisons of SD and EV selection rules are invalid because:

a. The EV portfolio building algorithms are not allowed to operate in such tests, and

b. While the estimators of true E and V are derived from and supported by elementary sampling theory, there exists no comparable sampling theory for the estimation of total probability functions.

The business of banking has changed profoundly over the past 15 years, and some of these changes have come to entail serious problems during periods of severe stress in financial markets. In part, banking changes have contributed to financial instability (actual and potential), and in part banking instability has reflected economic pressures. Recognizing the complexity of these influences, the need to anticipate problems–to keep “good” banks from going “bad,” as well as to keep “bad” banks from failing–is particularly urgent, especially since the economic environment in the years just ahead appears likely to be at least as unsettled as that of the recent past.

My comment was requested by the Chairman to be directed especially toward Dr. Robert Holland's excellent and thoughtful account of the changes, past and prospective, springing from the development of bank holding companies in American banking markets.

If I have read Professor Mayer's paper correctly, its basic message is that large banks should be permitted to fail. I agree with that position. Moreover, there have been two large-bank failures of late, and it is safe to infer that at least in a technical sense, the regulatory authorities also agree with Professor Mayer's position. However, implementation of that basic policy raises questions about the continued use of what have proved to be important institutional arrangements. As is well-recognized, failure carries with it a host of socially undesirable consequences, and for that reason an elaborate system of bank examination has been created at both the state and federal level to minimize the frequency of its occurrence. Thus, a policy position which permits any bank, large or small, to fail could imply the abandonment of bank supervision. I for one am not willing to go that far and I do not believe Mayer is either.

As an alteration of the firm's productive asset portfolio, divestiture is the mirror-image of asset acquisition or merger. Yet, though significant efforts have been expended by researchers into the implications of acquisition and merger, the literature of finance is all but silent on the subject of divestiture.

Recent evidence supports the notion that capital markets are substantially integrated in a return/systematic risk sense [1, 12]. Other studies show that investors can reduce the total level of risk borne without reducing expected returns by holding an internationally diversified portfolio [8, 9, 17]. Together these studies imply that the various economies mirrored by financial markets are not perfectly integrated. Some assert, however, that because of controls on capital flows, differential trading costs, different tax structures, and a number of other factors, markets are imperfectly (albeit substantially) integrated. Hence investors may not actually be diversifying internationally and thus forego advantages which would accrue to them if they were willing to hold foreign security issues.

Recent trends in capital budgeting have been toward more complex decision rules with increasingly sophisticated treatments of risk. Although they have the virtue of simplicity, undiscounted methods such as the payback do not account for the time value of money. Net present value and internal rate of return consider the time value of money but many questions remain about the proper discount rate, the reinvestment assumption, and the statistical interrelations among projects. The latest approaches, referred to as portfolio models, are substantially more complicated but are the only methods that consider the statistical interrelations among the various assets. The most popular portfolio approach has been the mean-variance (E-V) model developed by Sharpe [10] and Lintner [5].

This paper by Hughes, Logue, and Sweeney offers an excellent summary of recent theoretical work on the advantages of multinational firms in providing opportunities for international diversification. In addition, some interesting empirical tests of an international version of the capital asset pricing model (IAPM) are reported. Neither of these topics is original as several writers have explored the theoretical advantages of the multinational firm providing international diversification, including this discussant [1]. The IAPM has been tested by Solnik [2] and others who find that systematic risk is lower in international financial markets than in domestic ones.