nep-fmk New Economics Papers
on Financial Markets
Issue of 2007‒08‒08
six papers chosen by
Kwang Soo Cheong
Johns Hopkins University

  1. International Investment for Retirement Savers: Historical Evidence on Risk and Returns By Gary Burtless; ; ;
  2. Hedge funds, financial intermediation, and systemic risk By John Kambhu; Til Schuermann; Kevin J. Stiroh
  3. Credit Risk Transfer: To Sell or to Insure By James R. Thompson
  4. The use of portfolio credit risk models in Central Banks. By Ulrich Bindseil; Han van der Hoorn; Ken Nyholm; Henrik Schwartzlose; Pierre Ledoyen; Wolfgang Föttinger; Fernando Monar; Bérénice Boux; Gigliola Chiappa; Noëlle Honings; Ricardo Amado; Kai Sotamaa; Dan Rosen
  5. Dividend Yield and Stability versus Performance at the German Stock Market By Antje Henne; Sebastian Ostrowski; Peter Reichling

  1. By: Gary Burtless; (Urban Institute); ;
    Abstract: An important decision facing retirement savers is how to allocate their savings across different assets. The decision includes the choice of how to divide investments between domestic and foreign holdings. This study uses return data for 1927-2005 to determine whether cross-border investing in the past would have been advantageous to retirement savers in eight large industrialized countries. By assumption investors can buy mutual fund shares in index funds for stocks and bonds in their home country and in any of seven foreign countries. The mutual funds’ foreign holdings are not hedged to protect investors against currency fluctuations. The paper’s goal is to determine whether workers in the eight countries would have obtained higher expected retirement incomes, with smaller risk of catastrophic investment shortfalls, if they invested part of their retirement savings in foreign stocks and bonds. Consistent with past theoretical and empirical findings, the results show that workers could have improved expected financial performance by investing in foreign as well as domestic equities. Remarkably, retirement savers in nearly all countries would have obtained higher average pensions with a 100% foreign allocation than with a 100% domestic allocation, even if they followed extremely naïve strategies in allocating equity investments across different foreign markets. For retirement savers in most countries, though not the United States, naïve overseas investment strategies would also have reduced the risk of catastrophically poor investment performance. In all countries, retirement savers who selected a global portfolio allocation along the efficient frontier could obtain better average pensions with lower risk of very small pensions than savers who restrict their investments to the domestic stock and bond funds.
    Keywords: cross-border investing, foreign stocks, bonds, domestic allocation, equities, investments, foriegn
    Date: 2007–02
  2. By: John Kambhu; Til Schuermann; Kevin J. Stiroh
    Abstract: Hedge funds are significant players in the U.S. capital markets, but differ from other market participants in important ways such as their use of a wide range of complex trading strategies and instruments, leverage, opacity to outsiders, and their compensation structure. The traditional bulwark against financial market disruptions with potential systemic consequences has been the set of counterparty credit risk management (CCRM) practices by the core of regulated institutions. The characteristics of hedge funds make CCRM more difficult as they exacerbate market failures linked to agency problems, externalities, and moral hazard. While various market failures may make CCRM imperfect, it remains the best line of defense against systemic risk.
    Keywords: Hedge funds ; Financial markets ; Financial risk management ; Capital market
    Date: 2007
  3. By: James R. Thompson (Queen's University)
    Abstract: This paper analyzes credit risk transfer in banking. Specifically, we model loan sales and loan insurance (e.g. credit default swaps) as the two instruments of risk transfer. Recent empirical evidence suggests that the adverse selection problem is as relevant in loan insurance as it is in loan sales. Contrary to previous literature, this paper allows for informational asymmetries in both markets. We show how credit risk transfer can achieve optimal investment and minimize the social costs associated with excess risk taking by a bank. Furthermore, we find that no separation of loan types can occur in equilibrium. Our results show that a well capitalized bank will tend to use loan insurance regardless of loan quality in the presence of moral hazard and relationship banking costs of loan sales. Finally, we show that a poorly capitalized bank may be forced into the loan sales market, even in the presence of possibly significant relationship and moral hazard costs that can depress the selling price.
    Keywords: credit risk transfer, banking, loan sales, loan insurance, credit derivatives
    JEL: G21 G22 D82
    Date: 2007–06
  4. By: Ulrich Bindseil (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Han van der Hoorn (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Ken Nyholm (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Henrik Schwartzlose (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Pierre Ledoyen (National Bank of Belgium, boulevard de Berlaimont 14, BE-1000 Brussels, Belgium.); Wolfgang Föttinger (Deutsche Bundesbank, Hauptverwaltung Frankfurt am Main, Postfach 11 12 32, 60047 Frankfurt / Main.); Fernando Monar (Banco de Espana, Alcala 50, E-28014 Madrid, Spain.); Bérénice Boux (Banque de France,39, rue Croix-des-Petits-Champs, F-75049 Paris Cedex 01, France.); Gigliola Chiappa (Banca d'Italia, Via Nazionale 91, I-00184 Rome, Italy.); Noëlle Honings (De Nederlandsche Bank, Westeinde 1, NL - 1017 ZN Amsterdam, The Nederlands.); Ricardo Amado (Banco de Portugal, 148, Rua do Comercio, P-1101 Lisbon Condex, Portugal.); Kai Sotamaa (Suomen Pankki, P.O. Box 160, FIN-00101 Helsinki, Finland.); Dan Rosen (University of Toronto, McMurrich Building, Administration, 12 Queen's Park Crescent West, Toronto, Ontario M5S 1A8, Canada.)
    Abstract: This report summarises the findings of the task force. It is organised as follows. Section 2 starts with a discussion of the relevance of credit risk for central banks. It is followed by a short introduction to credit risk models, parameters and systems in Section 3, focusing on models used by members of the task force. Section 4 presents the results of the simulation exercise undertaken by the task force. The lessons from these simulations as well as other conclusions are discussed in Section 5.
    Date: 2007–07
  5. By: Antje Henne (Faculty of Economics and Management, Otto-von-Guericke University Magdeburg); Sebastian Ostrowski (Faculty of Economics and Management, Otto-von-Guericke University Magdeburg); Peter Reichling (Faculty of Economics and Management, Otto-von-Guericke University Magdeburg)
    Abstract: It is often examined in the literature whether the dividend yields of stocks correlate with their total returns. This paper analyzes the effect of dividend yield on return as well as on risk and on performance of stocks and stock portfolios. Not only the influence of dividend yield but also of dividend stability is subject of our analysis. Furthermore, tax aspects are considered. Our data set comprises daily adjusted stock prices and dividend payment data from the German capital market over the period 2000 to 2006. We use stocks from the HDAX, which include blue chips (DAX), stocks of medium-sized companies (MDAX), and stocks of technology firms (TecDAX). Our findings suggest that the performance generally improves with an increasing dividend yield. However, this result is rather based on risk reduction than on a higher return where risk reduction diminishes by increasing the degree of diversification.
    Keywords: dividend yield, dividend stability, diversification, performance
    JEL: G11 G14
    Date: 2007–07
  6. By: Valérie Revest (CEPN - Centre d'économie de l'Université de Paris Nord - [CNRS : UMR7115] - [Université Paris-Nord - Paris XIII]); Samira Guennif (CEPN - Centre d'économie de l'Université de Paris Nord - [CNRS : UMR7115] - [Université Paris-Nord - Paris XIII])
    Abstract: In 1996, two investigations conducted by the Securities and Exchange Commission and the American Department of Justice reported non-competitive practices among market makers on the NASDAQ. These reports also mentioned the influence of the NASDAQ social structure on market makers’ behaviours. Most market makers adopted social norms in order to increase significantly their income at the expense of the customers. This paper aims to explain the rise and long-term effects of non-competitive practices, through the integration of a concrete view of “embeddedness” (Granovetter, 1985). We propose the use of game theory tools to achieve this goal. A rereading of Kreps’ model of reputation sheds light on its structural dimension and illustrates the way social structure governs individual behaviours.
    Keywords: NASDAQ, non-competitive behaviours, embeddedness, social structure, game theory, reputation, trust
    Date: 2007–07–18

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