nep-rmg New Economics Papers
on Risk Management
Issue of 2005‒05‒14
ten papers chosen by
Stan Miles
York University

  1. Robust Mean-Variance Portfolio Selection By Cédric Perret-Gentil; Maria-Pia Victoria-Feser
  2. Understanding Default Risk Through Nonparametric Intensity Estimation By Fabien Couderc
  3. Times-To-Default:Life Cycle, Global and Industry Cycle Impact By Fabien Couderc; Olivier Renault
  4. Increasing Uncertainty: A Definition By Simon Grant; John Quiggin
  5. Una aproximación empírica a la relación entre las tasas de interés de los TES de tasa fija y el tipo de cambio en Colombia (2001-2004) By Alvaro Andrés Cámaro Suárez; Arnoldo Casas Henao; Edgar Ricardo Jiménez Méndez
  6. Long-Run Cash-Flow and Discount-Rate Risks in the Cross-Section of US Returns By Michail Koubouros; Dimitrios Malliaropulos; Ekaterini Panopoulou
  7. Narrowing the No-Arbitrage Bounds By Robert G. Chambers; John Quiggin
  8. Evaluation of Linear Asset Pricing Models by Implied Portfolio Performance By Ronald J. Balvers; Dayong Huang
  9. Increases in risk and demand for risky asset By Alain Chateauneuf; Ghizlane Lakhnati
  10. Information and the Equity Premium By Edward Schlee; Christian Gollier

  1. By: Cédric Perret-Gentil (Union Bancaire Privée); Maria-Pia Victoria-Feser (HEC,University of Geneva)
    Abstract: This paper investigates model risk issues in the context of mean-variance portfolio selection. We analytically and numerically show that, under model misspecification, the use of statistically robust estimates instead of the widely used classical sample mean and covariance is highly beneficial for the stability properties of the mean-variance optimal portfolios. Moreover, we perform simulations leading to the conclusion that, under classical estimation, model risk bias dominates estimation risk bias. Finally, we suggest a diagnostic tool to warn the analyst of the presence of extreme returns that have an abnormally large influence on the optimization results.
    Keywords: Mean-variance e .cient frontier; Outliers; Model risk; Robust es-timation
    JEL: C13 C51 G11
    Date: 2005–04
  2. By: Fabien Couderc (University of Geneva and FAME)
    Abstract: This paper investigates instantaneous probabilities of default implied by rating and default events. We propose and apply an alternative measurement approach to standard cohort and homogenous hazard estimators. Our estimator is a smooth nonparametric estimator of intensities, free of bias and unambiguously more accurate. It also avoids the Markovian framework and takes care of censoring. Using Standard & Poor’s ratings database we then show that intensities vary both with respect to calendar time and ageing time. We deeper investigate the behaviour of through-the-cycle default probabilities, update and complement knowledge on documented non Markovian patterns. Results do not support associated timeliness problems but indicate a low reactivity of ratings in terms of magnitude. Because of their target horizon, they indeed integrate the mean reverting feature of default intensities.
    Keywords: default intensity; hazard estimation; censored duration; non Markovian framework; through-the-cycle ratings
    JEL: C14 C41 G20 G33
    Date: 2005–03
  3. By: Fabien Couderc (University of Geneva & FAME); Olivier Renault (Warwick Business School,UK)
    Abstract: This paper studies times-to-default of individual firms across risk classes. Using Standard & Poor’s ratings database we investigate common drivers of default probabilities and address two shortcomings of many papers in the credit literature. First, we identify relevant determinants of default intensities using business cycle and credit market proxies in addition to financial markets indicators, and reveal the time-span of their impacts. We show that misspecifications of financial based factor models are largely corrected by non financial information. Second, we show that past economic conditions are of prime importance in explaining probability changes: current shocks and long term trends jointly determine default probabilities. Finally, we exhibit industry contagion indicators which might be helpful to capture leading and persistency patterns of the default cycle.
    Keywords: censored durations; proportional hazard; business cycle; credit cycle; default determinants; default prediction
    JEL: C14 C41 G20 G33
    Date: 2005–03
  4. By: Simon Grant (Department of Economics, Rice University); John Quiggin (Department of Economics, University of Queensland)
    Abstract: We present a definition of increasing uncertainty, in which an elementary increase in the uncertainty of any act corresponds to the addition of an `elementary bet' that increases consumption by a fixed amount in (relatively) `good' states and decreases consumption by a fixed (and possibly different) amount in (relatively) `bad' states. This definition naturally gives rise to a dual definition of comparative aversion to uncertainty. We characterize this definition for a popular class of generalized models of choice under uncertainty.
    Keywords: uncertainty, ambiguity, risk, non-expected utility
    JEL: C72 D81
    Date: 2004–05
  5. By: Alvaro Andrés Cámaro Suárez; Arnoldo Casas Henao; Edgar Ricardo Jiménez Méndez
    Abstract: El presente trabajo tiene como finalidad, analizar la evolución de las relaciones entre las tasas de interés del mercado de deuda pública colombiano y el tipo de cambio nominal peso dólar, así como observar las repercusiones que pudo tener la crisis de los TES del 2002 en sus relaciones dinámicas. Para tal efecto se utilizó la serie histórica de la tasa representativa del mercado (TRM) como medida de la evolución del tipo de cambio y se construyó un índice representativo del mercado de TES ante la ausencia de un título permanente y representativo de liquidez, durante el período enero del 2001 a mayo del 2004. Se realizaron contrastes multivariantes de cointegración y causalidad sobre modelos VAR y VECM que mostraron como conclusión principal la existencia de una relación de largo plazo entre el tipo de cambio y las tasas de interés de la deuda pública. *********************************************************** This paper studies the relationship between public debt fixed income interest rates TES Tasa Fija and the exchange rate in Colombia during the period 2001-2004 using VECM, Granger Causality and impulse response function techniques. Some of the findings suggest the existence of a long-term relationship between the variables and bi-directional Granger Causality. The empirical results show a negative short-run effect under devaluation in the TES Tasa Fija market reverted in the long-run due to the existence of cointegrating vectors. On the other hand, there is evidence of short-run negative effect in the peso-dollar market under appreciation of the TES TF reverted in the long run. The results controvert some traditional market assumptions about the relationship between this variables and puts some new issues into the agendas of portfolio and risk managers.
    Keywords: Cointegración,
    Date: 2004–10–31
  6. By: Michail Koubouros (University of Peloponnese); Dimitrios Malliaropulos (University of Piraeus & National Bank of Greece); Ekaterini Panopoulou (National University of Ireland, Maynooth)
    Abstract: This paper decomposes the overall market (CAPM) risk into parts reflecting uncertainty related to the long-run dynamics of portfolio- specific and market cash flows and discount rates. We decompose market betas into four sub-betas (associated with assets' and market's cash- flows and discount-rates) and we employ a discrete time version of the I-CAPM to derive a four-beta model. The model performs well in pricing average returns on single- and double-sorted portfolios according to size, book-to-market, dividend-price ratios and past risk, by producing high estimates for the explained cross-sectional variation in average returns and economically and statistically acceptable estimates for the coefficient of relative risk aversion.
    Keywords: CAPM, cash-flow risk, discount-rate risk, VAR-GARCH, BEKK, asset pricing
    JEL: G
    Date: 2005–05–08
  7. By: Robert G. Chambers (Dept of Agricultural and Resource Economics, University of Maryland, College Park); John Quiggin (Department of Economics, University of Queensland)
    Abstract: The broadness of no-arbitrage bounds on asset prices has led to a number of suggestions on how to narrow them. This paper points out that another, apparently unexploited, opportunity exists for narrowing the no-arbitrage bounds, using information on the production technology. The key analytic concept is that of the derivative-cost function, which is used to define a notion of arbitrage that encompasses both the basis assets and stochastic production opportunities.
    Keywords: arbitrage, state-contingent production
    JEL: D81 G12
  8. By: Ronald J. Balvers (Division of Economics and Finance, West Virginia University); Dayong Huang (Division of Economics and Finance, West Virginia University)
    Abstract: To evaluate linear asset pricing models we develop a measure previously considered by Kandel and Stambaugh (1995). The “KS-ratio” criterion rates a model’s usefulness based on the mean portfolio return, for any given variance choice, obtained by a mean-variance decision maker using the model for optimal portfolio decisions. It is shown to be equivalent to a maximum cross-sectional GLS Rsquare criterion and a criterion measuring the minimal standardized distance of the factor portfolio variance to the asset frontier for given mean. The KS-ratio together with the HJ-distance and several ad hoc evaluation criteria are applied to nine prominent asset pricing models. We find that it is necessary to correct for the number of factors and that this correction makes a substantial difference for model rankings. While rankings on the ad hoc criteria are variable, rankings based on the KSratio and HJ-distance are quite consistent. After correction for the number of factors, both a theoretical productivity-based model and the Chen-Roll-Ross model beat the Fama-French three factor model.
    Keywords: Linear Asset Pricing Models, Model Evaluation, Portfolio Performance
    JEL: G12 C52 G11
  9. By: Alain Chateauneuf (CERMSEM); Ghizlane Lakhnati (CERMSEM)
    Abstract: In this paper, we examine the effect of a decrease in risk on the demand for risky asset in the standard portfolio problem. We introduce a new class of dominance, that we name relative order and we prove that this class of dominance is consistent both with central dominance introduced by Gollier [5] and with mean preserving increase in risk. Finally, we show that some known classes of dominance are particular cases of our new class of dominance.
    Keywords: EU model, portfolio choice, mean preserving increase in risk, central dominance, relative simple dominance, relative dominance
    JEL: D80 G11
    Date: 2005–04
  10. By: Edward Schlee (W. P. Carey School of Business Department of Economics); Christian Gollier (No affiliation)
    Abstract: We consider the effect of information on the average risk-free rate and the average equity premium in a standard two-period exchange economy with complete markets and a representative agent. We show that information always increases the average risk-free rate. Clearly, perfect information eliminates the equity premium; moreover, we show that a particular kind of information about the level of the return to equity always decreases the average equity premium. Surprisingly, however, information must sometimes raise the premium, no matter what the preferences of the representative agent; and information purely about the volatility of the return always raises the equity premium for a interesting class of preferences. We use these results to illuminate the equity premium and risk-free rate puzzles.
    JEL: D8 D9 G12

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