nep-fmk New Economics Papers
on Financial Markets
Issue of 2014‒04‒18
nine papers chosen by
Kwang Soo Cheong
Johns Hopkins University

  1. Financial bubbles: mechanisms and diagnostics By Didier Sornette; Peter Cauwels
  2. On the impact of macroeconomic news surprises on Treasury-bond yields By Imane El Ouadghiri; Valerie Mignon; Nicolas Boitout
  3. Asymmetric Information and Imperfect Competition in the Loan Market By Crawfordy, Gregory S; Pavaniniz, Nicola; Schivardi, Fabiano
  4. R&D investments and high-tech firms' stock return volatility By Sami Gharbi; Jean-Michel Sahut; Frédéric Teulon
  5. Testing for Leverage Effect in Financial Returns By Christophe Chorro; Dominique Guegan; Florian Ielpo; Hanjarivo Lalaharison
  6. Do financial advisors provide tangible benefits for investors? Evidence from tax-motivated mutual fund flows By Cici, Gjergji; Kempf, Alexander; Sorhage, Christoph
  7. Bank liquidity shocks in loan and deposit in emerging markets By Mehdi Mili; Jean-Michel Sahut
  8. Financial Market Regulation in Germany - Capital Requirements of Financial Institutions By Daniel Detzer
  9. The Random-Walk Hypothesis on the Indian Stock Market By Ankita Mishra; Vinod Mishra; Russell Smyth

  1. By: Didier Sornette (ETH Zurich); Peter Cauwels (ETH Zurich)
    Abstract: We define a financial bubble as a period of unsustainable growth, when the price of an asset increases ever more quickly, in a series of accelerating phases of corrections and rebounds. More technically, during a bubble phase, the price follows a faster-than-exponential power law growth process, often accompanied by log-periodic oscillations. This dynamic ends abruptly in a change of regime that may be a crash or a substantial correction. Because they leave such specific traces, bubbles may be recognised in advance, that is, before they burst. In this paper, we will explain the mechanism behind financial bubbles in an intuitive way. We will show how the log-periodic power law emerges spontaneously from the complex system that financial markets are, as a consequence of feedback mechanisms, hierarchical structure and specific trading dynamics and investment styles. We argue that the risk of a major correction, or even a crash, becomes substantial when a bubble develops towards maturity, and that it is therefore very important to find evidence of bubbles and to follow their development from as early a stage as possible. The tools that are explained in this paper actually serve that purpose. They are at the core of the Financial Crisis Observatory at the ETH Zurich, where tens of thousands of assets are monitored on a daily basis. This allow us to have a continuous overview of emerging bubbles in the global financial markets. The companion report available as part of the Notenstein white paper series (2014) with the title ``Financial bubbles: mechanism, diagnostic and state of the World (Feb. 2014)'' presents a practical application of the methodology outlines in this article and describes our view of the status concerning positive and negative bubbles in the financial markets, as of the end of January 2014.
    Date: 2014–04
  2. By: Imane El Ouadghiri; Valerie Mignon; Nicolas Boitout
    Abstract: This paper investigates the impact of surprises associated with monthly macroeconomic news releases on Treasury-bond yields, by paying particular attention to the moment at which the information is published in the month. Implementing an event study on intraday data, we show that (i) the main bond market movers are based on economic activity and in ation indicators, (ii) long-maturity bonds are slightly more impacted by surprises than short-maturity ones, and (iii) the bond market is more sensitive to bad news than to good announcements. Finally, we evidence an empirical monotonic relationship between the surprises' impact and their corresponding news' publication date and/or their sign.
    Keywords: bond market, event study, macroeconomic news.
    JEL: G14 G12 E44 C22
    Date: 2014
  3. By: Crawfordy, Gregory S (University of Zurich, CEPR and CAGE); Pavaniniz, Nicola (zUniversity of Zurich); Schivardi, Fabiano (xLUISS, EIEF and CEPR)
    Abstract: We measure the consequences of asymmetric information in the Italian market for small business lines of credit. Exploiting detailed, proprietary data on a random sample of Italian firms, the population of medium and large Italian banks, individual lines of credit between them, and subsequent individual defaults, we estimate models of demand for credit, loan pricing, loan use, and firm default based on the seminal work of Stiglitz and Weiss (1981) to measure the extent and consequences of asymmetric information in this market. While our data include a measure of observable credit risk comparable to that available to a bank during the application process, we allow firms to have private information about the underlying riskiness of their project. This riskiness influences banks’ pricing of loans as higher interest rates attract a riskier pool of borrowers, increasing aggregate default probabilities. Data on default, loan size, demand, and pricing separately identify the distribution of private riskiness from heterogeneous firm disutility from paying interest. Preliminary results suggest evidence of asymmetric information, separately identifying adverse selection and moral hazard. We use our results to quantify the impact of asymmetric information on pricing and welfare, and the role imperfect competition plays in mediating these effects.
    Keywords: Italian, asymmetric information
    Date: 2013
  4. By: Sami Gharbi; Jean-Michel Sahut; Frédéric Teulon
    Abstract: The empirical evidence suggests that firms in high-tech industries exhibit high stock return volatility. In this paper, we conceive of the R&D investment intensity as a possible explanation for the stock volatility behavior in these industries. We suggest that R&D activities generate information asymmetry about the prospects of the firm and make its stock riskier. Relying on Panel data models, we investigate this relationship for French high-tech firms. We find out a strong positive relationship between stock return volatility and R&D investment intensity. This finding suggests that R&D intensive firms should implement an efficient information disclosure policy to reduce information asymmetry and to avoid excessive stock return volatility.
    Keywords: R&D; Idiosyncratic idiosyncratic volatility; Riskrisk; Asymmetric asymmetric information; Stock stock return; Innovationinnovation; Highhigh-tech firms
    Date: 2014–04–10
  5. By: Christophe Chorro (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris 1 - Panthéon-Sorbonne); Dominique Guegan (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris 1 - Panthéon-Sorbonne); Florian Ielpo (Lombard Odier - Lombard Odier Darier Hentsch & Cie); Hanjarivo Lalaharison (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris 1 - Panthéon-Sorbonne)
    Abstract: This article questions the empirical usefulness of leverage effects to describe the dynamics of equity returns. Using a recursive estimation scheme that accurately disentangles the asymmetry coming from the conditional distribution of returns and the asymmetry that is related to the past return to volatility component in GARCH models, we test for the statistical significance of the latter. Relying on both in and out of sample tests we consistently find a weak contribution of leverage effect over the past 25 years of S&P 500 returns, casting light on the importance of the conditional distribution in time series models.
    Keywords: Maximum likelihood method; related-GARCH process; recursive estimation method; mixture of Gaussian distributions; Generalized hyperbolic distributions; S&P 500; forecast; leverage effect
    Date: 2014–02
  6. By: Cici, Gjergji; Kempf, Alexander; Sorhage, Christoph
    Abstract: Whether financial advisors provide useful services for clients that seek to invest in mutual funds remains an open question. We are the first to show that financial advisors generate tangible benefits for their clients in the form of useful tax advice. Specifically, financial advisors help clients reduce their tax liabilities by avoiding taxable fund distributions, which can potentially improve their after-tax returns. The benefits from financial advice are the largest in situations that matter most for investors, especially when investors face large and hard-to-predict tax liabilities. Evidence from December distributions suggests that financial advisors also help clients with tax-loss selling. --
    Keywords: Mutual funds,Taxable fund distributions,Financial advisors,After-tax returns
    JEL: D14 G11 G24 H24
    Date: 2014
  7. By: Mehdi Mili; Jean-Michel Sahut
    Abstract: Abstract. This paper focuses on the transmission of bank liquidity shocks in loan and deposit in emerging markets. First, we attempt to identify the factors that affect the credit strategy of foreign banks in emerging countries. Second, we test whether depositors do exert market discipline on foreign subsidiaries. Combining between financial variables of subsidiaries, their parent banks, and macroeconomic variables of host and home countries, we investigate the factors that are likely to impact the depositors’ behaviour. Our empirical approach is based on a Partial Least Squares-Path model, through which we can identify the causal relationships between the various groups of variables. Our results show that foreign bank lending is determined by the specific financial variables of the parent bank as well as macroeconomic variables of the country of origin. This means that the foreign subsidiary’s strategy credit is centrally managed at the parent bank and that subsidiaries’ credit supply depends primarily on the financial situation of its parent bank. Finally, we evidence market discipline as applied to foreign subsidiaries in emerging countries. We demonstrate that market discipline is strongly affected by the specific characteristics of the subsidiary.
    Keywords: foreign banks, credit supply, market discipline, emerging countries.
    JEL: F15 F34 G21
    Date: 2014–04–10
  8. By: Daniel Detzer (Berlin School of Economics and Law, and Institute for International Political Economy Berlin (IPE))
    Abstract: This paper examines capital adequacy regulation in Germany. After a general overview of financial regulation in Germany, the paper focuses on the most important development in the area of capital adequacy regulation from the 1930s up to the financial crisis. Two main trends are identified: a gradual softening of the eligibility criteria for regulatory equity and the increasing reliance on banks’ internal risk models for the determination of risk weights. The first trend has been reversed with the regulatory reforms following the financial crisis. Internal risk models still play a central role. The rest of the paper focuses on the problems with the use of internal risk models for regulatory purposes. The discussion includes the moral hazard problem, the technical problems with the models, the difference between economically and socially optimal capital requirements, the procyclicality of the models and the problem occurring due to the existence of fundamental uncertainty. The regulatory reforms due to Basel 2.5 and Basel III and their potential to alleviate the identified problems are then examined. It is concluded that those cannot solve the most relevant problems and that currently the use of models for financial regulation is problematic. Finally, some suggestions of how the problems could be addressed are given.
    Keywords: Banking Regulation, Financial Regulation, Capital Requirements, Capital Adequacy, Bank Capital, Basel Accord, Risk Management, Risk Models, Germany
    JEL: G18 G28 N24 N44
    Date: 2014–02–15
  9. By: Ankita Mishra; Vinod Mishra; Russell Smyth
    Abstract: This study tests the random walk hypothesis for the Indian stock market. Using 19 years of monthly data on six indices from the National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE), this study applies three different unit root tests with two structural breaks to analyse the random walk hypothesis. We find that unit root tests that allow for two structural breaks alone are not able to reject the unit root null; however, a recently developed unit root test that simultaneously accounts for heteroskedasticity and structural breaks, finds that the stock indices are mean reverting. Our results point to the importance of addressing heteroskedasticity when testing for a random walk with high frequency financial data.
    Keywords: India, Unit root, Structural Break, Stock Market, Random Walk
    JEL: G14 C22
    Date: 2014–04

This nep-fmk issue is ©2014 by Kwang Soo Cheong. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
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.