nep-fmk New Economics Papers
on Financial Markets
Issue of 2016‒06‒09
five papers chosen by
Kwang Soo Cheong
Johns Hopkins University

  1. What Proportion of Time is a particular Market inefficient?...Analysing market efficiency when equity prices follow Threshold Autoregressions. By Muhammad Farid Ahmed; Stephen Satchell
  2. Hedging with Small Uncertainty Aversion By Sebastian Herrmann; Johannes Muhle-Karbe; Frank Thomas Seifried
  3. Anticipating the Financial Crisis: Evidence from Insider Trading in Banks By Marin, Jose; Ozlem Akin, Ozlem; Peydró, José Luis
  4. Equity Fund Flows and Stock Market Returns in the US Before and After the Global Financial Crisis: A VAR-GARCH-In-Mean Analysis By Vassilios Babalos; Guglielmo Maria Caporale; Nicola Spagnolo
  5. Pricing Bermudan options under local L\'evy models with default By Anastasia Borovykh; Cornelis W. Oosterlee; Andrea Pascucci

  1. By: Muhammad Farid Ahmed; Stephen Satchell
    Abstract: We assume that log equity prices follow multi-state threshold autoregressions and generalize existing results for threshold autoregressive models, presented in Knight and Satchell (2012) for the existence of a stationary process and the conditions necessary for the existence of a mean and a variance; we also present formulae for these moments. Using a simulation study we explore what these results entail with respect to the impact they can have on tests for detecting bubbles or market efficiency. We find that bubbles are easier to detect in processes where a stationary distribution does not exist. Furthermore, we explore how threshold autoregressive models with i.i.d trigger variables may enable us to identify how often asset markets are inefficient. We find, unsurprisingly, that the fraction of time spent in an efficient state depends upon the full specification of the model; the notion of how efficient a market is, in this context at least, a model-dependent concept. However, our methodology allows us to compare efficiency across different asset markets.
    Date: 2016–04–04
  2. By: Sebastian Herrmann; Johannes Muhle-Karbe; Frank Thomas Seifried
    Abstract: We study the pricing and hedging of derivative securities with uncertainty about the volatility of the underlying asset. Rather than taking all models from a prespecified class equally seriously, we penalise less plausible ones based on their "distance" to a reference local volatility model. In the limit for small uncertainty aversion, this leads to explicit formulas for prices and hedging strategies in terms of the security's cash gamma.
    Date: 2016–05
  3. By: Marin, Jose; Ozlem Akin, Ozlem; Peydró, José Luis
    Abstract: Banking crises are recurrent phenomena, often induced by ex-ante excessive bank risk-taking, which may be due to behavioral reasons (over- optimistic banks neglecting risks) and to agency problems between bank shareholders with debt-holders and taxpayers (banks understand high risk-taking). We test whether US banks' stock returns in the 2007-08 crisis are related to bank insiders' sale of their own bank shares in the period prior to 2006:Q2 (the peak and reversal in real estate prices). We find that top-five executives' ex-ante sales of shares predicts the cross-section of banks returns during the crisis; interestingly, effects are insignificant for independent directors' and other officers' sale of shares. Moreover, the top-five executives' significant impact is stronger for banks with higher ex-ante exposure to the real estate bubble, where an increase of one standard deviation of insider sales is associated with a 13.33 percentage point drop in stock returns during the crisis period. The informational content of bank insider trading before the crisis suggests that insiders understood the risk-taking in their banks, which has important implications for theory, public policy and the understanding of crises.
    Keywords: agency problems in firms; Banking; Financial crises; insider trading; risk-taking
    JEL: G01 G02 G21 G28
    Date: 2016–05
  4. By: Vassilios Babalos; Guglielmo Maria Caporale; Nicola Spagnolo
    Abstract: The 2008—2009 global financial crisis has raised new questions about the relationship between equity fund flows and stock market returns. This paper analyses it using US monthly data over the period 2000:1-2015:08. A VAR-GARCH(1,1)-in-mean model with a BEKK representation is estimated, and a switch dummy for the global financial crisis is also included. We find causality-in-mean from stock market returns to equity fund flows (consistently with the feedback-trading hypothesis) only in the post-September 2008 period. There are also volatility spillovers from stock market returns to equity fund flows both before and after the crisis; however, this relationship is not stable, becoming weaker in the crisis period. As a robustness check we augment the model with a set of macroeconomic control variables. Their inclusion does not affect the main results.
    Keywords: Equity Fund Flows, Stock Market Returns, VAR-GARCH-in-mean model, Volatility
    JEL: G23 C32
    Date: 2016
  5. By: Anastasia Borovykh; Cornelis W. Oosterlee; Andrea Pascucci
    Abstract: We consider a defaultable asset whose risk-neutral pricing dynamics are described by an exponential L\'evy-type martingale. This class of models allows for a local volatility, local default intensity and a locally dependent L\'evy measure. We present a pricing method for Bermudan options based on an analytical approximation of the characteristic function combined with the COS method. Due to a special form of the obtained characteristic function the price can be computed using a Fast Fourier Transform-based algorithm resulting in a fast and accurate calculation. The Greeks can be computed at almost no additional computational cost. Error bounds for the approximation of the characteristic function as well as for the total option price are given.
    Date: 2016–04

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