nep-fmk New Economics Papers
on Financial Markets
Issue of 2016‒05‒14
three papers chosen by

  1. Arbitrage without borrowing or short selling? By Jani Lukkarinen; Mikko S. Pakkanen
  2. Financial Fragility and Over-the-Counter Markets By Sultanum, Bruno
  3. Coherence and incoherence collective behavior in financial market By Shangmei Zhao; Qiuchao Xie; Qing Lu; Xin Jiang; Wei Chen

  1. By: Jani Lukkarinen; Mikko S. Pakkanen
    Abstract: We show that a trader, who starts with no initial wealth and is not allowed to borrow money or short sell assets, is theoretically able to attain positive wealth by continuous trading, provided that she has perfect foresight of future asset prices, given by a continuous semimartingale. Such an arbitrage strategy can be constructed as a process of finite variation that satisfies a seemingly innocuous self-financing condition, formulated using a pathwise Riemann-Stieltjes integral. Our result exemplifies the potential intricacies of formulating economically meaningful self-financing conditions in continuous time, when one leaves the conventional arbitrage-free framework.
    Date: 2016–04
  2. By: Sultanum, Bruno (Federal Reserve Bank of Richmond)
    Abstract: This paper studies the interaction between financial fragility and over-the-counter markets. In the model, the financial sector is composed of a large number of investors divided into different groups, which are interpreted as financial institutions, and a large number of dealers. Financial institutions and dealers trade assets in an over-the-counter market à la Duffie et al. (2005) and Lagos and Rocheteau (2009). Investors are subject to privately observed preference shocks, and financial institutions use the balanced team mechanism, proposed by Athey and Segal (2013), to implement an efficient risk-sharing arrangement among its investors. I show that when the market is more liquid, in the sense that the searchfriction is mild, the economy is more likely to have a unique equilibrium and, therefore, is not fragile. However, when the search friction is severe, I provide examples with run equilibria—where investors announce low valuation of assets because they believe everyone else in their financial institution is doing the same. In terms of welfare, I find that, conditional on bank runs existing, the welfare impact of the search friction is ambiguous. The reason is that, during runs, trade is inefficient and, as a result, a friction that reduces trade during runs has the potential to improve welfare. This result is in sharp contrast with the existing literature which suggests that search friction has a negative impact on welfare.
    JEL: D82 E58 G01 G21
    Date: 2016–04–13
  3. By: Shangmei Zhao; Qiuchao Xie; Qing Lu; Xin Jiang; Wei Chen
    Abstract: Financial markets have been extensively studied as highly complex evolving systems. In this paper, we quantify financial price fluctuations through a coupled dynamical system composed of phase oscillators. We find a Financial Coherence and Incoherence (FCI) coexistence collective behavior emerges as the system evolves into the stable state, in which the stocks split into two groups: one is represented by coherent, phase-locked oscillators, the other is composed of incoherent, drifting oscillators. It is demonstrated that the size of the coherent stock groups fluctuates during the economic periods according to real-world financial instabilities or shocks. Further, we introduce the coherent characteristic matrix to characterize the involvement dynamics of stocks in the coherent groups. Clustering results on the matrix provides a novel manifestation of the correlations among stocks in the economic periods. Our analysis for components of the groups is consistent with the Global Industry Classification Standard (GICS) classification and can also figure out features for newly developed industries. These results can provide potentially implications on characterizing inner dynamical structure of financial markets and making optimal investment tragedies.
    Date: 2016–05

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