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on Financial Markets |
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Issue of 2015‒01‒09
eight papers chosen by |
| By: | Seth Anderson; T. Randolph Beard; Hyeongwoo Kim; Liliana Stern |
| Abstract: | This paper investigates the short-run relationship between closed-end fund prices and their net asset values. In particular, we document three systematic differences between the short-run pricing behaviors for stock and bonds funds. For equity funds, we show that returns processes for both prices and asset values have characteristics of a random walk, while bond funds returns are more predictable. Similarly, multivariate GARCH analysis establishes the existence of stronger news and volatility spillover effects between the fund price and the net asset value for bond funds than for stock funds. Finally, we find significantly weaker dynamic conditional correlations between the fund price and its fundamental value for bond funds after the Lehman Brothers failure, whereas no such evidence is found for stock funds. To explain these findings, we propose a mechanism based on bond market illiquidity. |
| Keywords: | Closed-End Funds; Market Efficiency; Market Illiquidity; Common Factors; Dynamic Conditional Correlation |
| JEL: | C32 G01 G12 |
| Date: | 2014–11 |
| URL: | http://d.repec.org/n?u=RePEc:abn:wpaper:auwp2014-14&r=fmk |
| By: | Chen, Andrew Y. (Board of Governors of the Federal Reserve System (U.S.)) |
| Abstract: | Solutions to the equity premium puzzle should inform us about the cross-section of stock returns. An external habit model with heterogeneous firms reproduces numerous stylized facts about both the equity premium and the value premium. The equity premium is large, time-varying, and linked with consumption volatility. The cross-section of expected returns is log-linear in B/M, and the slope matches the data. The explanation for the value premium lies in the interaction between the cross-section of cash flows and the time-varying risk premium. Value firms are temporarily low productivity firms, which will eventually experience high cash flows. The present value of these temporally distant cash flows is sensitive to risk premium movements. The value premium is the reward for bearing this sensitivity. Empirical evidence verifies that value firms have higher cash-flow growth. The data also show that value stock returns are more sensitive to risk premium movements, as measured by consumption volatility shocks. |
| Keywords: | Equity premium puzzle; value premium; production; time-varying consumption volatility |
| Date: | 2014–11–21 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgfe:2014-103&r=fmk |
| By: | Rose, Andrew K |
| Abstract: | This paper explores the relationship between inflation and the existence of a publicly-traded, long-maturity, nominal, domestic-currency bond market. Bond holders suffer from inflation and could be a potent anti-inflationary force; I ask whether their presence is apparent empirically. I use a panel data approach, examining the difference in inflation before and after the introduction of a bond market. My primary focus is on countries with inflation targeting regimes, though I also examine countries with hard fixed exchange rates and other monetary regimes. Inflation-targeting countries with a bond market experience inflation approximately three to four percentage points lower than those without a bond market. This effect is economically and statistically significant; it is also insensitive to a variety of estimation strategies, including using political and fiscal instrumental variables. The existence of a bond market has little effect on inflation in other monetary regimes, as do indexed or foreign-denominated bonds. |
| Keywords: | currency; domestic; effect; empirical; fixed; long; maturity; nominal; panel; risk |
| JEL: | E52 E58 |
| Date: | 2014–09 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:10124&r=fmk |
| By: | Gargano, Antonio; Pettenuzzo, Davide; Timmermann, Allan G |
| Abstract: | Studies of bond return predictability find a puzzling disparity between strong statistical evidence of return predictability and the failure to convert return forecasts into economic gains. We show that resolving this puzzle requires accounting for important features of bond return models such as time varying parameters and volatility dynamics. A three-factor model comprising the Fama-Bliss (1987) forward spread, the Cochrane-Piazzesi (2005) combination of forward rates and the Ludvigson-Ng (2009) macro factor generates notable gains in out-of-sample forecast accuracy compared with a model based on the expectations hypothesis. Importantly, we find that such gains in predictive accuracy translate into higher risk-adjusted portfolio returns after accounting for estimation error and model uncertainty, as evidenced by the performance of model combinations. Finally, we find that bond excess returns are predicted to be significantly higher during periods with high inflation uncertainty and low economic growth and that the degree of predictability rises during recessions. |
| Keywords: | Bayesian estimation; bond returns; model uncertainty; stochastic volatility; time-varying parameters |
| JEL: | G11 G12 G17 |
| Date: | 2014–08 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:10104&r=fmk |
| By: | Kruttli, Mathias; Patton, Andrew J; Ramadorai, Tarun |
| Abstract: | This paper provides empirical evidence of the impact of hedge funds on asset markets. We construct a simple measure of the aggregate illiquidity of hedge fund portfolios, and show that it has strong in- and out-of-sample forecasting power for 72 portfolios of international equities, corporate bonds, and currencies over the 1994 to 2013 period. The forecasting ability of hedge fund illiquidity for asset returns is in most cases greater than, and provides independent information relative to, well-known predictive variables for each of these asset classes. We construct a simple equilibrium model based on liquidity provision by hedge funds to noise traders to rationalize our findings, and empirically verify auxiliary predictions of the model. |
| Keywords: | bonds; currencies; equities; hedge funds; liquidity; return predictability |
| JEL: | G11 G12 G14 G23 |
| Date: | 2014–09 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:10151&r=fmk |
| By: | David E. Allen; Michael McAleer (University of Canterbury); Shelton Peiris; Abhay K. Singh |
| Abstract: | This paper features an analysis of the effectiveness of a range of portfolio diversification strategies as applied to a set of 17 years of monthly hedge fund index returns on a set of ten market indices representing 13 major hedge fund categories, as compiled by the EDHEC Risk Institute. The 17-year period runs from the beginning of 1997 to the end of August 2014. The sample period, which incorporates both the Global Financial Crisis (GFC) and subsequent European Debt Crisis (EDC), is a challenging one for the application of diversification and portfolio investment strategies. The analysis features an examination of the diversification benefits of hedge fund investments through successive crisis periods. The connectedness of the Hedge Fund Indices is explored via application of the Diebold and Yilmaz (2009, 2014) spillover index. We conduct a series of portfolio optimisation analyses: comparing Markowitz with naive diversification, and evaluate the relative effectiveness of Markowitz portfolio optimisation with various draw-down strategies, using a series of backtests. Our results suggest that Markowitz optimisation matches the characteristics of these hedge fund indices quite well. |
| Keywords: | Hedge Fund Diversification, Spillover Index, Markowitz Analysis, Downside Risk, CVaR, Draw-Down |
| JEL: | G11 C61 |
| Date: | 2014–12–10 |
| URL: | http://d.repec.org/n?u=RePEc:cbt:econwp:14/27&r=fmk |
| By: | Torben G. Andersen (Northwestern University, NBER, and CREATES); Nicola Fusari (The Johns Hopkins University Carey Business School); Viktor Todorov (Northwestern University) |
| Abstract: | We study the dynamic relation between market risks and risk premia using time series of index option surfaces. We find that priced left tail risk cannot be spanned by market volatility (and its components) and introduce a new tail factor. This tail factor has no incremental predictive power for future volatility and jump risks, beyond current and past volatility, but is critical in predicting future market equity and variance risk premia. Our findings suggest a wide wedge between the dynamics of market risks and their compensation, with the latter typically displaying a far more persistent reaction following market crises. |
| Keywords: | Option Pricing, Risk Premia, Jumps, Stochastic Volatility, Return Predictability, Risk Aversion, Extreme Events |
| JEL: | C51 C52 G12 |
| Date: | 2014–12–15 |
| URL: | http://d.repec.org/n?u=RePEc:aah:create:2014-56&r=fmk |
| By: | Luc Arrondel; Laura Bartiloro; Pirmin Fessler; Peter Lindner; Thomas Y. Mathä; Cristiana Rampazzi; Frederique Savignac; Tobias Schmidt; Martin Schürz; Philip Vermeulen |
| Abstract: | Using the first wave of the Eurosystem Household Finance and Consumption Survey (HFCS), a large micro-level dataset on households? balance sheets in 15 euro area countries, this paper explores how households allocate their assets. We derive stylised facts on asset participation as well as levels of asset holdings and investigate the systematic relationships between household characteristics and asset holding patterns. Real assets make up the bulk of total assets. Whereas ownership of the main residence varies strongly between countries, the value of the main residence tends to be the major asset for homeowners and represents a significant part of total assets in all countries. While almost all households hold safe financial assets, a low share of households holds risky assets. The ownership rates of all asset categories generally increase with wealth (and income). The significance of inheritances for home ownership and holding of other real estate is remarkable. We tentatively link differences in asset holding patterns across countries to differences in institutions, such as mortgage market institutions and house price-to-rent ratios. |
| Keywords: | Household financial decisions, individual portfolio choice, real and financial assets, cross-country comparisons |
| JEL: | D1 D3 |
| Date: | 2014–12 |
| URL: | http://d.repec.org/n?u=RePEc:bcl:bclwop:bclwp094&r=fmk |