New Economics Papers
on Financial Markets
Issue of 2007‒01‒14
nine papers chosen by

  1. The Markov-Switching Multifractal Model of asset returns : GMM estimation and linear forecasting of volatility By Lux, Thomas
  2. Microscopic Models of Financial Markets By Samanidou, Egle; Zschischang, Elmar; Stauffer, Dietrich; Lux, Thomas
  3. Hedgers, Investors and Futures Return Volatility: the Case of NYMEX Crude Oil By George Milunovich; Ronald D. Ripple
  4. Financial Structure, Managerial Compensation and Monitoring By Vittoria Cerasi; Sonja Daltung
  5. Debt-equity choice as a signal of profit profile over time By Miglo, Anton
  6. The Basel II IRB approach revisited: do we use the correct model? By Varsanyi, Zoltan
  7. Corporate Sector Financial Structure in Turkey : A Descriptive Analysis By Halil Ibrahim Aydin; Cafer Kaplan; Mehtap Kesriyeli; Erdal Ozmen; Cihan Yalcin; Serkan Yigit
  8. Project Finance as a Risk-Management Tool in International Syndicated Lending By Christa Hainz; Stefanie Kleimeier
  9. Discriminant Analysys of Default Risk By Aragon, Aker

  1. By: Lux, Thomas
    Abstract: Multifractal processes have recently been proposed as a new formalism for modelling the time series of returns in ¯nance. The major attraction of these processes is their ability to generate various degrees of long memory in di®erent powers of returns - a feature that has been found in virtually all ¯nancial data. Initial di±culties stemming from non-stationarity and the combinatorial nature of the original model have been overcome by the introduction of an iterative Markov-switching multifractal model in Calvet and Fisher (2001) which allows for estimation of its parameters via maximum likelihood and Bayesian forecasting of volatility. However, applicability of MLE is restricted to cases with a discrete distribution of volatility components. From a practical point of view, ML also be- comes computationally unfeasible for large numbers of components even if they are drawn from a discrete distribution. Here we propose an alter- native GMM estimator together with linear forecasts which in principle is applicable for any continuous distribution with any number of volatility components. Monte Carlo studies show that GMM performs reasonably well for the popular Binomial and Lognormal models and that the loss incurred with linear compared to optimal forecasts is small. Extending the number of volatility components beyond what is feasible with MLE leads to gains in forecasting accuracy for some time series.
    Keywords: Markov-switching, multifractal, forecasting, volatility, GMM estimation
    JEL: C20 G12
    Date: 2006
  2. By: Samanidou, Egle; Zschischang, Elmar; Stauffer, Dietrich; Lux, Thomas
    Abstract: This review deals with several microscopic models of ¯nancial markets which have been studied by economists and physicists over the last decade: Kim- Markowitz, Levy-Levy-Solomon, Cont-Bouchaud, Solomon-Weisbuch, Lux-Marchesi, Donangelo-Sneppen and Solomon-Levy-Huang. After an overview of simulation ap- proaches in ¯nancial economics, we ¯rst give a summary of the Donangelo-Sneppen model of monetary exchange and compare it with related models in economics lit- erature. Our selective review then outlines the main ingredients of some in°uential early models of multi-agent dynamics in ¯nancial markets (Kim-Markowitz, Levy- Levy-Solomon). As will be seen, these contributions draw their inspiration from the complex appearance of investors' interactions in real-life markets. Their main aim is to reproduce (and, thereby, provide possible explanations) for the spectacular bubbles and crashes seen in certain historical episodes, but they lack (like almost all the work before 1998 or so) a perspective in terms of the universal statisti- cal features of ¯nancial time series. In fact, awareness of a set of such regularities (power-law tails of the distribution of returns, temporal scaling of volatility) only gradually appeared over the nineties. With the more precise description of the for- merly relatively vague characteristics ( e.g. moving from the notion of fat tails to the more concrete one of a power-law with index around three), it became clear that ¯nancial markets dynamics give rise to some kind of universal scaling laws. Showing similarities with scaling laws for other systems with many interacting sub- units, an exploration of ¯nancial markets as multi-agent systems appeared to be a natural consequence. This topic was pursued by quite a number of contributions appearing in both the physics and economics literature since the late nineties. From the wealth of di®erent °avors of multi-agent models that have appeared by now, we discuss the Cont-Bouchaud, Solomon-Levy-Huang and Lux-Marchesi models. Open research questions are discussed in our concluding section.
    Date: 2006
  3. By: George Milunovich (Department of Economics, Macquarie University); Ronald D. Ripple (Department of Economics, Macquarie University)
    Abstract: We present a new model to evaluate the volatility of futures returns. The model is a combination of Dynamic Conditional Correlation and an augmented EGARCH, which allows us to evaluate the differential effects of the trading activity of two classes of optimizing traders. We apply the model to the NYMEX crude oil futures contract, and we find that the rebalancing activity of hedgers has a significant and positive effect on returns volatility. However, we also find that the rebalancing activity attributable to crude oil futures for non-hedging investors has no significant effect.
    Keywords: portfolio choice, WTI oil volatility, optimal hedge ratio, dynamic conditional correlation
    JEL: Q4 G11 G13
    Date: 2006–10
  4. By: Vittoria Cerasi; Sonja Daltung
    Abstract: When a firm has external debt and monitoring by shareholders is essential, managerial bonuses are shown to be an optimal solution. A small managerial bonus linked to firm's performance not only reduces moral hazard between managers and shareholders, but also between creditors and monitoring shareholders. A negative relation between corporate bond yields and managerial bonuses can be predicted. Furthermore, the model shows how higher managerial pay-performance sensitivity goes hand in hand with greater company leverage and lower company diversification. These predictions find some support in the empirical literature.
    Keywords: managerial compensation; financial structure; monitoring; diversification.
    JEL: G32 M12
    Date: 2006–11
  5. By: Miglo, Anton
    Abstract: This paper analyzes debt-equity choice for financing a two-stage investment when a firm’s insiders have private information about the firm’s expected earnings. When private information is one-dimensional (for example when short-term earnings are common knowledge while long-term earnings are private information) a separating equilibrium does not exist. When private information is two-dimensional a separating equilibrium may exist where firms with a higher rate of earnings growth issue debt and firms with a low rate of earnings growth issue equity. This provides new insights into the issue of different kinds of securities by different types of firms under asymmetric information as well as the link between debt-equity choice and operating performance.
    Keywords: Debt-equity choice; Asymmetric information; Timing of earnings; Long-term underperformance
    JEL: G33 G32 G24 D92 D82 C73
    Date: 2006
  6. By: Varsanyi, Zoltan
    Abstract: In this paper I question whether the risk weights in the advanced (IRB) approach of the Basel 2 regulation are appropriate, on a strictly theoretical ground. The major concern is that the model behind the regulation considers defaults only at the end of the time horizon for which capital is to be held - whereas defaults in the whole time interval should be taken into consideration. This latter approach is represented by a model that is different from the Basel model. It follows, as I show, that the Basel model should be viewed just as a technical tool to turn the expected value of the unconditional loss distribution into a given percentile of the same distribution - making use of conditional (on the systemic factor) default probabilities - and should not be interpreted as describing even 'virtual' firms and asset values. More importantly, I also show that a logical step in the theoretical foundation of the model is missing which raises the question whether the risk weights calculated with the model are indeed appropriate. Due to difficulties in the calculation in the alternative approach of the percentiles of the loss distribution no clean-cut answer is given in this paper.
    Keywords: Basel II; credit risk
    JEL: G28
    Date: 2006–08
  7. By: Halil Ibrahim Aydin; Cafer Kaplan; Mehtap Kesriyeli; Erdal Ozmen; Cihan Yalcin; Serkan Yigit
    Date: 2006
  8. By: Christa Hainz (Department of Economics, University of Munich, Akademiestr. 1/III, 80799 Munich.; Stefanie Kleimeier (Limburg Institute of Financial Economics, FdEWB, Maastricht University, P.O. Box 616, 6200 MD Maastricht, Netherlands.
    Abstract: We develop a double moral hazard model that predicts that the use of project finance increases with both the political risk of the country in which the project is located and the influence of the lender over this political risk exposure. In contrast, the use of project finance should decrease as the economic health and corporate governance provisions of the borrower’s home country improve. When we test these predictions with a global sample of syndicated loans to borrowers in 139 countries, we find overall support for our model and provide evidence that multilateral development banks act as “political umbrellas”.
    Keywords: project finance, syndicated loans, political risk, double moral hazard
    JEL: D82 F34 G21 G32
    Date: 2006–12
  9. By: Aragon, Aker
    Abstract: In this work discriminant analysis was applied, but firstly the variables were transformed in order to get normal distribution; and Component Analysis was applied in order to get uncorrelated factors.
    Keywords: discriminant; default risk; box cox
    JEL: G21 C13
    Date: 2004–10–21

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