nep-fmk New Economics Papers
on Financial Markets
Issue of 2011‒02‒12
seven papers chosen by
Kwang Soo Cheong
Johns Hopkins University

  1. Monetary policy and its impact on stock market liquidity: Evidence from the euro zone By Octavio Fernández-Amador; Martin Gächter; Martin Larch; Georg Peter
  2. Estimating the Leverage Parameter of Continuous-time Stochastic Volatility Models Using High Frequency S&P 500 and VIX By Isao Ishida; Michael McAleer; Kosuke Oya
  3. International Evidence on GFC-robust Forecasts for Risk Management under the Basel Accord By Michael McAleer; Juan-Ángel Jiménez-Martín; Teodosio Pérez-Amaral
  4. Macroprudential policy - a literature review By Gabriele Galati; Richhild Moessner
  5. A model-free approach to delta hedging By Michel Fliess; Cédric Join
  6. Volatility made observable at last By Michel Fliess; Cédric Join; Frédéric Hatt
  7. Why Does Bad News Increase Volatility and Decrease Leverage? By Ana Fostel; John Geanakoplos

  1. By: Octavio Fernández-Amador; Martin Gächter; Martin Larch; Georg Peter
    Abstract: The recent financial crisis has been characterized by unprecedented monetary policy interventions of central banks with the intention to stabilize financial markets and the real economy. This paper sheds light on the actual impact of monetary policy on stock liquidity and thereby addresses its role as a determinant of commonality in liquidity. To capture effects both at the micro and macro level of stock markets, we apply panel estimations and vector autoregressive models. Our results suggest that an expansionary monetary policy of the European Central Bank leads to an increase of stock market liquidity in the German, French and Italian markets. These findings are robust for seven proxies of liquidity and two measures of monetary policy.
    Keywords: Stock liquidity, monetary policy, euro zone
    JEL: E44 E51 E52 G12
    Date: 2011–02
  2. By: Isao Ishida (Center for the Study of Finance and Insurance, Osaka University); Michael McAleer (Erasmus University Rotterdam, Tinbergen Institute, The Netherlands, and Institute of Economic Research, Kyoto University); Kosuke Oya (Graduate School of Economics and Center for the Study of Finance and Insurance, Osaka University)
    Abstract: This paper proposes a new method for estimating continuous-time stochastic volatility (SV) models for the S&P 500 stock index process using intraday high-frequency observations of both the S&P 500 index and the Chicago Board of Exchange (CBOE) implied (or expected) volatility index (VIX). Intraday high-frequency observations data have become readily available for an increasing number of financial assets and their derivatives in recent years, but it is well known that attempts to estimate the parameters of popular continuous-time models can lead to nonsensical estimates due to severe intraday seasonality. A primary purpose of the paper is to estimate the leverage parameter, ρ , that is, the correlation between the two Brownian motions driving the diffusive components of the price process and its spot variance process, respectively. We show that, under the special case of Heston's (1993) square-root SV model without measurement errors, the "realized leverage", or the realized covariation of the price and VIX processes divided by the product of the realized volatilities of the two processes, converges to ρ in probability as the time intervals between observations shrink to zero, even if the length of the whole sample period is fixed. Finite sample simulation results show that the proposed estimator delivers accurate estimates of the leverage parameter, unlike existing methods.
    Keywords: Continuous time, high frequency data, stochastic volatility, S&P 500, implied volatility, VIX
    JEL: G13 G32
    Date: 2011–02
  3. By: Michael McAleer (University of Canterbury); Juan-Ángel Jiménez-Martín; Teodosio Pérez-Amaral
    Abstract: A risk management strategy that is designed to be robust to the Global Financial Crisis (GFC), in the sense of selecting a Value-at-Risk (VaR) forecast that combines the forecasts of different VaR models, was proposed in McAleer et al. (2010c). The robust forecast is based on the median of the point VaR forecasts of a set of conditional volatility models. Such a risk management strategy is robust to the GFC in the sense that, while maintaining the same risk management strategy before, during and after a financial crisis, it will lead to comparatively low daily capital charges and violation penalties for the entire period. This paper presents evidence to support the claim that the median point forecast of VaR is generally GFC-robust. We investigate the performance of a variety of single and combined VaR forecasts in terms of daily capital requirements and violation penalties under the Basel II Accord, as well as other criteria. In the empirical analysis, we choose several major indexes, namely French CAC, German DAX, US Dow Jones, UK FTSE100, Hong Kong Hang Seng, Spanish Ibex35, Japanese Nikkei, Swiss SMI and US S&P500. The GARCH, EGARCH, GJR and Riskmetrics models, as well as several other strategies, are used in the comparison. Backtesting is performed on each of these indexes using the Basel II Accord regulations for 2008-10 to examine the performance of the Median strategy in terms of the number of violations and daily capital charges, among other criteria. The Median is shown to be a profitable and safe strategy for risk management, both in calm and turbulent periods, as it provides a reasonable number of violations and daily capital charges. The Median also performs well when both total losses and the asymmetric linear tick loss function are considered.
    Keywords: Median strategy; Value-at-Risk (VaR); daily capital charges; robust forecasts; violation penalties; optimizing strategy; aggressive risk management; conservative risk management; Basel II Accord; global financial crisis (GFC)
    JEL: G32 G11 C53 C22
    Date: 2011–01–01
  4. By: Gabriele Galati; Richhild Moessner
    Abstract: The recent financial crisis has highlighted the need to go beyond a purely micro approach to financial regulation and supervision. In recent months, the number of policy speeches, research papers and conferences that discuss a macro perspective on financial regulation has grown considerably. The policy debate is focusing in particular on macroprudential tools and their usage, their relationship with monetary policy, their implementation and their effectiveness. Macroprudential policy has recently also attracted considerable attention among researchers. This paper provides an overview of research on this topic. We also identify important future research questions that emerge from both the literature and the current policy debate.
    Keywords: macroprudential policy
    Date: 2011–02
  5. By: Michel Fliess (LIX - Laboratoire d'informatique de l'école polytechnique - CNRS : UMR7161 - Polytechnique - X, INRIA Saclay - Ile de France - ALIEN - INRIA - Polytechnique - X - Ecole Centrale de Lille - CNRS : UMR8146); Cédric Join (INRIA Saclay - Ile de France - ALIEN - INRIA - Polytechnique - X - Ecole Centrale de Lille - CNRS : UMR8146, CRAN - Centre de recherche en automatique de Nancy - CNRS : UMR7039 - Université Henri Poincaré - Nancy I - Institut National Polytechnique de Lorraine (INPL))
    Abstract: See for a slightly more elaborate version.
    Keywords: Delta hedging; trends; quick fluctuations; abrupt changes; jumps; tracking control; model-free control
    Date: 2010
  6. By: Michel Fliess (LIX - Laboratoire d'informatique de l'école polytechnique - CNRS : UMR7161 - Polytechnique - X); Cédric Join (INRIA Saclay - Ile de France - ALIEN - INRIA - Polytechnique - X - Ecole Centrale de Lille - CNRS : UMR8146, CRAN - Centre de recherche en automatique de Nancy - CNRS : UMR7039 - Université Henri Poincaré - Nancy I - Institut National Polytechnique de Lorraine (INPL)); Frédéric Hatt (Lucid Capital Management - Lucid Capital Management)
    Abstract: The Cartier-Perrin theorem, which was published in 1995 and is expressed in the language of nonstandard analysis, permits, for the first time perhaps, a clear-cut mathematical definition of the volatility of a financial asset. It yields as a byproduct a new understanding of the means of returns, of the beta coefficient, and of the Sharpe and Treynor ratios. New estimation techniques from automatic control and signal processing, which were already successfully applied in quantitative finance, lead to several computer experiments with some quite convincing forecasts.
    Keywords: Time series; quantitative finance; trends; returns; volatility; beta coefficient; Sharpe ratio; Treynor ratio; forecasts; estimation techniques; numerical differentiation; nonstandard analysis
    Date: 2011–04–06
  7. By: Ana Fostel (George Washington University); John Geanakoplos (Cowles Foundation, Yale University)
    Abstract: A recent literature shows how an increase in volatility reduces leverage. However, in order to explain pro-cyclical leverage it assumes that bad news increases volatility, that is, it assumes an inverse relationship between first and second moments of asset returns. This paper suggests a reason why bad news is more often than not associated with higher future volatility. We show that, in a model with endogenous leverage and heterogeneous beliefs, agents have the incentive to invest mostly in technologies that become more volatile in bad times. Agents choose these technologies because they can be leveraged more during normal times. Together with the existing literature this explains procyclical leverage. The result also gives a rationale to the pattern of volatility smiles observed in the stock options since 1987. Finally, the paper presents for the first time a dynamic model in which an asset is endogenously traded simultaneously at different margin requirements in equilibrium.
    Keywords: Collateral, Endogenous leverage, VaR, Volatility, Volatility smile
    JEL: D52 D53 E44 G11 G12
    Date: 2010–07

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