New Economics Papers
on Financial Markets
Issue of 2013‒05‒05
four papers chosen by

  1. The VIX, the Variance Premium and Stock Market Volatility By Geert Bekaert; Marie Hoerova
  2. Bond return predictability in expansions and recessions By Tom Engsted; Stig V. Møller; Magnus Sander
  3. Price discovery in the Italian sovereign bonds market: the role of order flow By Alessandro Girardi; Claudio Impenna
  4. A note on replicating a CDS through a repo and an asset swap By Lorenzo Giada; Claudio Nordio

  1. By: Geert Bekaert; Marie Hoerova
    Abstract: We decompose the squared VIX index, derived from US S&P500 options prices, into the conditional variance of stock returns and the equity variance premium. The latter is increasing in risk aversion in a wide variety of economic settings. We tackle several measurement issues assessing a plethora of state-of-the-art volatility forecasting models. We then examine the predictive power of the VIX and its two components for stock market returns and economic activity. The variance premium predicts stock returns but the conditional stock market variance predicts economic activity, and is more contemporaneously correlated with financial instability than is the variance premium.
    JEL: C22 C52 E32 G12
    Date: 2013–04
  2. By: Tom Engsted (Aarhus University and CREATES); Stig V. Møller (Aarhus University and CREATES); Magnus Sander (Aarhus University and CREATES)
    Abstract: We document that over the period 1953-2011 US bond returns are predictable in expansionary periods but unpredictable during recessions. This result holds in both in-sample and out-of-sample analyses and using both univariate regressions and combination forecasting techniques. A simulation study shows that our tests have power to reject unpredictability in both expansions and recessions. To judge the economic significance of the results we compute utility gains for a meanvariance investor who takes the predictability patterns into account and show that utility gains are positive in expansions but negative in recessions. The results are also consistent with tests showing that the expectations hypothesis of the term structure holds in recessions but not in expansions. However, the results for bonds are in sharp contrast to results for stocks showing that stock returns are predictable in recessions but not in expansions. Thus, our results indicate that there is not a common predictive pattern of stock and bond returns associated with the state of the economy.
    Keywords: Return predictability, expansions and recessions, out-of-sample tests, power properties, mean-variance investor, expectations hypothesis.
    JEL: C53 G12
    Date: 2013–04–25
  3. By: Alessandro Girardi (National Institute of Statistics (ISTAT)); Claudio Impenna (Bank of Italy)
    Abstract: This paper analyses the price discovery process and the informational role of trading in the Italian wholesale secondary markets for Treasury bonds: the B2B MTS cash and the B2C BondVision trading venues. Using daily data for a representative set of fixed rate government bonds over the period January 2007 - February 2012, we find that the B2C dealer-to-customer market contributes to the process of price formation to a greater extent than the B2B interdealer platform. The informational role of trading is found to be considerable: order flow is a key variable in the process of price formation and appears to continuously act on a cross market basis. Moreover, the explanatory role of order flow turns out to be stronger when liquidity conditions are poorer.
    Keywords: bonds markets, price discovery, order flow, market microstructure, financial crisis
    JEL: G1 G2
    Date: 2013–04
  4. By: Lorenzo Giada; Claudio Nordio
    Abstract: In this note we show how to replicate a stylized CDS with a repurchase agreement and an asset swap. The latter must be designed in such a way that, on default of the issuer, it is terminated with a zero close-out amount. This break clause can be priced using the well known unilateral credit/debit valuation adjustment formulas.
    Date: 2013–04

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