New Economics Papers
on Financial Markets
Issue of 2007‒11‒03
six papers chosen by

  1. The Equity Premium Puzzle, Ambiguity Aversion, and Institutional Quality By S. Nuri Erbas; Abbas Mirakhor
  2. Creditor Protection and Stock Price Volatility By Hale, Galina B; Razin, Assaf; Tong, Hui
  3. Conflict of interest and certification in the U.S. IPO market By Luca Benzoni; Carola Schenone
  4. Low Interest Rates and High Asset Prices: An Interpretation in Terms of Changing Popular Models By Robert J. Shiller
  5. Fiscal Insurance and Debt Management in OECD Economies By Faraglia, Elisa; Marcet, Albert; Scott, Andrew
  6. Asset correlations and credit portfolio risk: an empirical analysis By Düllmann, Klaus; Scheicher, Martin; Schmieder, Christian

  1. By: S. Nuri Erbas; Abbas Mirakhor
    Abstract: With cross-section data from 53 emerging and mature markets, we provide evidence that equity premium puzzle is a global phenomenon. In addition to risk aversion, equity premium may reflect ambiguity aversion. We explore the sources of equity premium using some pertinent fundamental independent variables, as well as the World Bank institutional quality indexes and other proxies for the degree of ambiguity in the sample countries. Some World Bank and other indexes are statistically significant, which indicates that a large part of equity premium may reflect investor aversion to ambiguities resulting from institutional weaknesses.
    Keywords: Working Paper , Risk premium , Stock prices ,
    Date: 2007–10–01
  2. By: Hale, Galina B; Razin, Assaf; Tong, Hui
    Abstract: This paper analyzes the effect of creditor protection on the volatility of stock market returns. Our application of the Tobin’s q model predicts that credit protection reduces the probability of oscillations between binding and nonbinding states of the credit constraint, which result from liquidity crises and their aftermath. In this way creditor protection regulation reduces the stock market price volatility. We test this prediction by using cross-country panel regressions of the stock return volatility, in 40 countries, over the period from 1984 to 2004. Estimated probabilities of big shocks to liquidity are used as a forecast of a switch from a credit–unconstrained to a credit-constrained regime. We find support for the hypothesis that creditor protection institutions reduce the probability of oscillations between binding and nonbinding states of the credit constraint and thereby help reduce the asset price volatility.
    Keywords: collateral; Credit constrained regimes; probability of liquidity crisis
    JEL: E44
    Date: 2007–10
  3. By: Luca Benzoni; Carola Schenone
    Abstract: We examine the long-run performance and valuation of IPOs underwritten by relationship banks. We find that over one- to three-year horizons these IPOs do not underperform similar stocks managed by independent institutions. Moreover, our analysis suggests that relationship banks avoid potential conflicts of interest by choosing to underwrite their best clients' IPOs. Consistent with this result, we show that investors value new issues managed by relationship banks higher than similar IPOs managed by outside banks. Our findings support the certification role of relationship banks and suggest that the effect of the 1999 repeal of Sections 20 and 32 of the Glass-Steagall Act has not been negative.
    Date: 2007
  4. By: Robert J. Shiller (Cowles Foundation, Yale University)
    Abstract: There has been a widespread perception in the past few years that long-term asset prices are generally high because monetary authorities have effectively kept long-term interest rates, which the market uses to discount cash flows, low. This perception is not accurate. Long-term interest rates have not been especially low. What has changed to produce high asset prices appears instead to be changes in popular economic models that people actually rely on when valuing assets. The public has mostly forgotten the concept of "real interest rate." Money illusion appears to be an important factor to consider.
    Keywords: Long-term interest rates, Stock prices, Housing prices, Real interest rates, Liquidity, Money illusion
    JEL: G12
    Date: 2007–10
  5. By: Faraglia, Elisa; Marcet, Albert; Scott, Andrew
    Abstract: Assuming the role of debt management is to provide hedging against fiscal shocks we consider three questions: i) what indicators can be used to assess the performance of debt management? ii) how well have historical debt management policies performed? and iii) how is that performance affected by variations in debt issuance? We consider these questions using OECD data on the market value of government debt between 1970 and 2000. Motivated by both the optimal taxation literature and broad considerations of debt stability we propose a range of performance indicators for debt management. We evaluate these using Monte Carlo analysis and find that those based on the relative persistence of debt perform best. Calculating these measures for OECD data provides only limited evidence that debt management has helped insulate policy against unexpected fiscal shocks. We also find that the degree of fiscal insurance achieved is not well connected to cross country variations in debt issuance patterns. Given the limited volatility observed in the yield curve the relatively small dispersion of debt management practices across countries makes little difference to the realised degree of fiscal insurance.
    Keywords: Bond Markets; Debt Management; Fiscal Insurance; Fiscal Policy
    JEL: E43 E62 H62 H63
    Date: 2007–10
  6. By: Düllmann, Klaus; Scheicher, Martin; Schmieder, Christian
    Abstract: In credit risk modelling, the correlation of unobservable asset returns is a crucial component for the measurement of portfolio risk. In this paper, we estimate asset correlations from monthly time series of Moody’s KMV asset values for around 2,000 European firms from 1996 to 2004. We compare correlation and value-atrisk (VaR) estimates in a one–factor or market model and a multi-factor or sector model. Our main finding is a complex interaction of credit risk correlations and default probabilities affecting total credit portfolio risk. Differentiation between industry sectors when using the sector model instead of the market model has only a secondary effect on credit portfolio risk, at least for the underlying credit portfolio. Averaging firm-dependent asset correlations on a sector level can, however, cause a substantial underestimation of the VaR in a portfolio with heterogeneous borrower size. This result holds for the market as well as the sector model. Furthermore, the VaR of the IRB model is more stable over time than the VaR of the market model and the sector model, while its distance from the other two models fluctuates over time.
    Keywords: Asset correlations, sector concentration, credit portfolio risk
    JEL: C15 G21
    Date: 2007

General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.