nep-fmk New Economics Papers
on Financial Markets
Issue of 2018‒09‒03
seven papers chosen by

  1. Herding and Power Laws in Financial Markets By Makoto Nirei; John Stachurski; Koichiro Takaoka; Tsutomu Watanabe
  2. OTC premia By Cenedese, Gino; Ranaldo, Angelo; Vasios, Michalis
  3. Equity Return Dispersion and Stock Market Volatility: Evidence from Multivariate Linear and Nonlinear Causality Tests By Riza Demirer; Rangan Gupta; Zhihui Lv; Wing-Keung Wong
  4. On smile properties of volatility derivatives and exotic products: understanding the VIX skew By Elisa Al\`os; David Garc\'ia-Lorite; Aitor Muguruza
  5. Do Foreign Investors Improve Market Efficiency? By Marcin Kacperczyk; Savitar Sundaresan; Tianyu Wang
  6. Underpricing in the euro area corporate bond market: New evidence from post-crisis regulation and quantitative easing By Rischen, Tobias; Theissen, Erik
  7. Funding Constraints and Market Illiquidity in the European Treasury Bond Market By Sophie Moinas; Minh Nguyen; Giorgio Valente

  1. By: Makoto Nirei (The University of Tokyo); John Stachurski (Australian National University); Koichiro Takaoka (Hitotsubashi University); Tsutomu Watanabe (The University of Tokyo)
    Abstract: This study provides an explanation of the emergence of power laws in trading volume and asset returns. In the model, traders infer other traders’ private signals regarding the value of an asset from their actions and adjust their own behavior accordingly. When the number of traders is large and the signals for asset value are noisy, this leads to power laws for equilibrium volume and returns. We also provide numerical results showing that the model reproduces observed distributions of daily stock volume and returns.
    Date: 2018–05
  2. By: Cenedese, Gino (Fulcrum Asset Managment); Ranaldo, Angelo (University of St Gallen); Vasios, Michalis (Bank of England)
    Abstract: Using trade repository data at transaction and ID levels, we provide the first systematic study of interest rate swaps traded over the counter in the new regulatory regime. We find substantial and persistent heterogeneity in derivatives prices consistent with a pass-through of regulatory costs on to market prices via the so-called valuation adjustments (XVA). Specifically, a client pays a higher price to buy interest-rate protection from a dealer (ie, the client pays a higher fixed rate) if the contract is not cleared via a central counterparty. This OTC premium decreases by posting initial margin and with higher buyer's creditworthiness. Also, OTC premia are absent for dealers suggesting dealers' bargaining power.
    Keywords: Interest rate swaps; financial regulation; central clearing; over-the-counter market; valuation adjustments
    JEL: G18
    Date: 2018–08–17
  3. By: Riza Demirer (Department of Economics & Finance, Southern Illinois University Edwardsville, Edwardsville); Rangan Gupta (Department of Economics, University of Pretoria, Pretoria, South Africa); Zhihui Lv (School of Mathematics and Statistics, Northeast Normal University, China); Wing-Keung Wong (Department of Finance, Fintech Center, and Big Data Research Center, Asia University; Department of Medical Research, China Medical University Hospital; Department of Economics and Finance, Hang Seng Management College; Department of Economics, Lingnan University)
    Abstract: This paper contributes to the literature on stock market predictability by exploring the causal relationships between equity return dispersion, stock market volatility and excess returns via multivariate nonlinear causality tests. Both bivariate and multivariate nonlinear causality tests yield significant evidence of causality from return dispersion to both stock market volatility and equity premium, even after controlling for the state of the economy. While we find significant causality from business conditions to return dispersion, we see that expansionary (contractionary) market states are associated with low (high) level of equity return dispersion, indicating asymmetries in the relationship between equity return dispersion and economic conditions. Overall, our findings suggest that both return dispersion and business conditions are valid joint forecasters of both the stock market volatility and excess market returns and that return dispersion possesses incremental information regarding future stock return dynamics beyond which can be explained by the state of the economy.
    Keywords: Equity return dispersion, Stock market volatility, Business cycle, Multivariate causality
    JEL: C32 E32 G10
    Date: 2018–07
  4. By: Elisa Al\`os; David Garc\'ia-Lorite; Aitor Muguruza
    Abstract: We develop a method to study the implied volatility for exotic options and volatility derivatives with European payoffs such as VIX options. Our approach, based on Malliavin calculus techniques, allows us to describe the properties of the at-the-money implied volatility (ATMI) in terms of the Malliavin derivatives of the underlying process. More precisely, we study the short-time behaviour of the ATMI level and skew. As an application, we describe the short-term behavior of the ATMI of VIX and realized variance options in terms of the Hurst parameter of the model, and most importantly we describe the class of volatility processes that generate a positive skew for the VIX implied volatility. In addition, we find that our ATMI asymptotic formulae perform very well even for large maturities. Several numerical examples are provided to support our theoretical results.
    Date: 2018–08
  5. By: Marcin Kacperczyk; Savitar Sundaresan; Tianyu Wang
    Abstract: We study the impact of foreign institutional investors on global capital allocation and welfare using novel firm-level international data. Using MSCI index inclusion as an exogenous shock to foreign ownership, we show that greater foreign ownership leads to more informative stock prices and this effect arises more from increased price efficiency than from improved firm governance. We further show that the impact of capital flows on price efficiency is due to real efficiency gains, as opposed to better information disclosure. Finally, we show that foreign ownership increases market liquidity, reduces firms' cost of equity, and leads to subsequent growth in their real investments, thus improving overall welfare.
    JEL: G11 G12 G14 G15
    Date: 2018–06
  6. By: Rischen, Tobias; Theissen, Erik
    Abstract: We conduct the most extensive study of underpricing in the euro area bond market so far and find strong evidence of underpricing. In cross-sectional regressions we find patterns that are consistent with bookbuilding-based theories of underpricing and inconsistent with liquidity-based explanations. The underpricing has increased considerably during the financial crisis and has remained at an elevated level since. We also show that secondary market liquidity in the euro area bond market is significantly lower in the post-crisis period than pre-crisis. These results are consistent with recent US evidence and may represent unintended side effects of new regulation enacted in the wake of the financial crisis, such as Basel III and the Volcker Rule. Furthermore, our evidence suggests that the ECB's asset purchase programs have led to a decrease in underpricing.
    Keywords: Underpricing,Bond Markets,Primary Market,Post-Crisis Regulation,ECB,Unconventional Monetary Policy,Quantitative Easing,Asset Purchase Programs
    JEL: G12 G32 E58
    Date: 2018
  7. By: Sophie Moinas; Minh Nguyen; Giorgio Valente
    Abstract: Theoretical studies show that shocks to funding constraints should affect and be affected by market illiquidity. However, little is known about the empirical magnitude of such responses because of the intrinsic endogeneity of illiquidity shocks. This paper adopts an identification technique based on the heteroskedasticity of illiquidity proxies to infer the reaction of one measure to shocks affecting the other. Using data for the European Treasury bond market, we find evidence that funding illiquidity shocks affect bond market illiquidity and of a weaker, but significant, reverse feedback effect. We also find that, in the cross-section, the responses of individual bonds' market illiquidity to funding illiquidity shocks increase with bond duration, the credit risk of the issuer, and with haircuts.
    Date: 2018

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