New Economics Papers
on Financial Markets
Issue of 2013‒11‒22
eight papers chosen by

  1. Financial Markets Around the Great Recession: East Meets West By Peter Simmons; Yuanyuan Xie
  2. The 2011 European short sale ban on financial stocks: A cure or a curse? By Félix, Luiz; Kräussl, Roman; Stork, Philip
  3. Lehman Died, Bagehot Lives: Why Did the Fed and Treasury Let a Major Wall Street Bank Fail? By William R. Cline; Joseph E. Gagnon
  4. Simulating the Synchronizing Behavior of High-Frequency Trading in Multiple Markets By Benjamin Myers; Austin Gerig
  5. High frequency trading and end-of-day price dislocation By Aitken, Michael; Cumming, Douglas; Zhan, Feng
  6. Impact of information cost and switching of trading strategies in an artificial stock market By Yi-Fang Liu; Chao Xu; Wei Zhang; J{\o}rgen Vitting Andersen
  7. Regional Stock Market Integration in Singapore: A Multivariate Analysis By Khaled Guesmi; Frédéric Teulon
  8. Structural Changes on Warsaw's Stock Exchange: the end of Financial Crisis By Pawel{\l} Fiedor

  1. By: Peter Simmons; Yuanyuan Xie
    Abstract: The 2007-2009 great recession saw sharp drops in equity values world wide and associated strong real effects. We develop an world CAPM approach, extended to allow for infinite risk/return opportunities, short sales constraints, borrowing and saving rate differentials. With MSCI monthly data, we use this to estimate tangent portfolios, standard deviations and market prices of risk in each country. We find short selling has a strong impact, in the crisis the net supply of equity finance vanished. If short selling is impossible, investors should have switched into cash. Postcrisis it rose but was still lower than precrisis.
    Keywords: Great recession, World CAPM, Supply of risky finance
    JEL: G01 G18 E44 E65
    Date: 2013–11
  2. By: Félix, Luiz; Kräussl, Roman; Stork, Philip
    Abstract: Did the August 2011 European short sale bans on financial stocks accomplish their goals? In order to answer this question, we use stock options' implied volatility skews to proxy for investors' risk aversion. We find that on ban announcement day, risk aversion levels rose for all stocks but more so for the banned financial stocks. The banned stocks' volatility skews remained elevated during the ban but dropped for the other unbanned stocks. We show that it is the imposition of the ban itself that led to the increase in risk aversion rather than other causes such as information flow, options trading volumes, or stock specific factors. Substitution effects were minimal, as banned stocks' put trading volumes and put-call ratios declined during the ban. We argue that although the ban succeeded in curbing further selling pressure on financial stocks by redirecting trading activity towards index options, this result came at the cost of increased risk aversion and some degree of market failure. --
    Keywords: short-selling,ban,financial stocks,implied volatility skew,risk aversion
    JEL: G01 G28
    Date: 2013
  3. By: William R. Cline (Peterson Institute for International Economics); Joseph E. Gagnon (Peterson Institute for International Economics)
    Abstract: Five years after the Federal Reserve and Treasury allowed the investment bank Lehman Brothers to fail, while rescuing Bear Stearns, Fannie Mae, Freddie Mac, and AIG, their actions (or inaction) remain a focus of debate. Cline and Gagnon present evidence that federal officials, at least in hindsight, appear to have followed the dictum of Walter Bagehot that lending should be granted only to solvent entities. Lehman was insolvent—probably deeply so—whereas the other institutions arguably were solvent. The other institutions had abundant collateral to pledge, whereas what little collateral Lehman had to pledge was of questionable quality and scattered across many affiliated entities. While the Fed and Treasury had a sound reason to let Lehman fail, the shock to financial markets that ensued from its collapse sent the financial crisis into a new, more acute phase and may have contributed to the severity of the Great Recession. Therefore the lesson from Lehman is not only that Bagehot-type lender-of-last-resort action is as important as ever but also that it is critical to ensure an orderly resolution for a systemically important financial institution going bankrupt.
    Date: 2013–09
  4. By: Benjamin Myers; Austin Gerig
    Abstract: Nearly one-half of all trades in financial markets are executed by high-speed, autonomous computer programs -- a type of trading often called high-frequency trading (HFT). Although evidence suggests that HFT increases the efficiency of markets, it is unclear how or why it produces this outcome. Here we create a simple model to study the impact of HFT on investors who trade similar securities in different markets. We show that HFT can improve liquidity by allowing more transactions to take place without adversely affecting pricing or volatility. In the model, HFT synchronizes the prices of the securities, which allows buyers and sellers to find one another across markets and increases the likelihood of competitive orders being filled.
    Date: 2013–11
  5. By: Aitken, Michael; Cumming, Douglas; Zhan, Feng
    Abstract: We show that the presence of high frequency trading (HFT) has significantly mitigated the frequency and severity of end-of-day price dislocation, counter to recent concerns expressed in the media. The effect of HFT is more pronounced on days when end of day price dislocation is more likely to be the result of market manipulation on days of option expiry dates and end of month. Moreover, the effect of HFT is more pronounced than the role of trading rules, surveillance, enforcement and legal conditions in curtailing the frequency and severity of end-ofday price dislocation. We show our findings are robust to different proxies of the start of HFT by trade size, cancellation of orders, and co-location. --
    Keywords: High frequency trading,End-of-day Price dislocation,Manipulation,Trading Rules,Surveillance,Law and Finance
    JEL: G12 G14 G18 K22
    Date: 2013
  6. By: Yi-Fang Liu; Chao Xu; Wei Zhang; J{\o}rgen Vitting Andersen
    Abstract: This paper studies the switching of trading strategies and the effect it can have on the market volatility in a continuous double auction market. We describe the behavior when some uninformed agents, who we call switchers, decide whether or not to pay for information before they trade. By paying for the information they behave as informed traders. First we verify that our model is able to reproduce some of the typical properties (stylized facts) of real financial markets. Next we consider the relationship between switching and the market volatility under different structures of investors. We find that the returns of all the uninformed agents are negatively related to the percentage of switchers in the market. In addition, we find that the market volatility is higher with the presence of switchers in the market and that there exists a positive relationship between the market volatility and the percentage of switchers. We therefore conclude that the switchers are a destabilizing factor in the market. However, for a given fixed percentage of switchers, the proportion of switchers that decide to switch at a given moment of time is negatively related to the current market volatility. In other words, if more agents pay for information to know the fundamental value at some time, the market volatility will be lower. This is because the market price is closer to the fundamental value due to information diffusion between switchers.
    Date: 2013–11
  7. By: Khaled Guesmi; Frédéric Teulon
    Abstract: This paper evaluates the time-varying integration of the Singapore stock market in the ASEAN-5 region based on a conditional version of the International Capital Asset Pricing Model (ICAPM) with c-DCC-FIAPARCH parameters. This model allows for dynamic changes in the degree of market integration, regional market risk premium, regional exchange-rate risk premium, and domestic market risk premium. Our findings show several interesting facts. First, the time-varying degree of integration in the Singapore market is satisfactorily explained by the level of trade openness and the term premium of US interest rates, which have recently tended to increase, however these markets remain substantially segmented from the world market. Second, the local market risk premium is found to explain a significant proportion of the total risk premium for emerging market returns. Our findings illustrate several important implications for portfolio hedgers for making optimal portfolio allocations, engaging in risk management and forecasting future volatility in equity markets. Our results are also of interest for both policymakers and investors, with respect to regional development policies and dedicated portfolio investment strategies in the ASEAN-5 region.
    Keywords: time-varying integration, emerging markets, ICAPM, risk premium, c-DCC-FIAPARCH.
    JEL: C32 F36 G11
    Date: 2013–11–14
  8. By: Pawel{\l} Fiedor
    Abstract: In this paper we analyse the structure of Warsaw's stock market using complex systems methodology together with network science and information theory. We find minimal spanning trees for log returns on Warsaw's stock exchange for yearly times series between 2000 and 2013. For each stock in those trees we calculate its Markov centrality measure to estimate its importance in the network. We also estimate entropy rate for each of those time series using Lempel-Ziv algorithm based estimator to study the predictability of those price changes. The division of the studied stocks into 26 sectors allows us to study the changing structure of the Warsaw's stock market and conclude that the financial crisis sensu stricto has ended on Warsaw's stock market in 2012-13. We also comment on the history and the outlook of the Warsaw's market based on the log returns, their average, variability, entropy and the centrality of a stock in the dependency network.
    Date: 2013–11

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