Stock price synchronicity and analyst coverage in emerging markets

This paper examines the relation between the stock price synchronicity and analyst activity in emerging markets. Contrary to the conventional wisdom that security analysts specialize in the production of firm-specific information, we find that securities which are covered by more analysts incorporate greater (lesser) market-wide (firm-specific) information. Using the R² statistics of the market model as a measure of synchronicity of stock price movement, we find that greater analyst coverage increases stock price synchronicity. Furthermore, after controlling for the influence of firm size on the lead–lag relation, we find that the returns of high analyst-following portfolio lead returns of low analyst-following portfolio more than vice versa. We also find that the aggregate change in the earnings forecasts in a high analyst-following portfolio affects the aggregate returns of the portfolio itself as well as those of the low analyst-following portfolio, whereas the aggregate change in the earnings forecasts of the low analyst-following portfolio have no predictive ability. Finally, when the forecast dispersion is high, the effect of analyst coverage on stock price synchronicity is reduced.     

On Timing and Selectivity

The dichotomy between timing ability and the ability to select individual assets has been widely used in discussing investment performance measurement. This paper discusses the conceptual and econometric problems associated with defining and measuring timing and selectivity. In defining these notions we attempt to capture their intuitive interpretation. We offer two basic modeling approaches, which we term the portfolio approach and the factor approach. We show how the quality of timing and selectivity information can be identified statistically in a number of simple models, and discuss some of the econometric issues associated with these models. In particular, a simple quadratic regression is shown to be valid in measuring timing information.     

The Estimation of Systematic Risk under Differentiated Risk Aversion: A Mean-Extended Gini Approach

This paper examines a mean-Gini model of systematic risk estimation that resolves some econometric problems with mean-variance beta estimation and allows for heterogeneous risk aversion across investors. Using the mean-extended Gini (MEG) model, we estimate systematic risks for different degrees of risk aversion. MEG betas are shown to be instrumental variable estimators that provide econometric solutions to biases generated by the estimation of mean-variance (MV) betas. When security returns are not normally distributed, MEG betas are proved to differ from MV betas. We design an econometric test that assesses whether these differences are significant. As an application using daily returns, we estimate MEG and MV betas for U.S. securities.     

Interest rates,inflation, and the Fisher effect in China

The paper estimates the relationship between the nominal Treasuries rate and inflation in China. The dynamic econometric analysis yields a preferred, automatically reduced, empirical model revealing a Fisher effect. But the results are sensitive to using different sub-samples encompassed in the decade-and-a-half period following the disassociation of Treasuries from the People’s Bank of China administered interest rates at the end of the 1990s.     

Volatility timing: How best to forecast portfolio exposures

This paper investigates how best to forecast optimal portfolio weights in the context of a volatility timing strategy. It measures the economic value of a number of methods for forming optimal portfolios on the basis of realized volatility. These include the traditional econometric approach of forming portfolios from forecasts of the covariance matrix. Both naïve forecasts using simple historical averages, and those generated from econometric models are considered. A novel method, where a time series of optimal portfolio weights are constructed from observed realized volatility and direct forecast is also proposed. A number of naïve forecasts and the approach of directly forecasting portfolio weights show a great deal of merit. Resulting portfolios are of similar economic benefit to a number of competing approaches and are more stable across time. These findings have obvious implications for the manner in which volatility timing is undertaken in a portfolio allocation context.     

Modelling the implied volatility surface: Does market efficiency matter?: An application to MIB30 index options

We analyze the volatility surface vs. moneyness and time-to-expiration implied by MIBO options written on the MIB30, the most important Italian stock index. We specify and fit a number of models of the implied volatility surface and find that it has a rich and interesting structure that strongly departs from a constant volatility, Black-Scholes benchmark. This result is robust to alternative econometric approaches, including generalized least squares approaches that take into account both the panel structure of the data and the likely presence of heteroskedasticity and serial correlation in the random disturbances. Finally we show that the degree of pricing efficiency of this options market can strongly condition the results of the econometric analysis and therefore our understanding of the pricing mechanism underlying observed MIBO option prices. Applications to value-at-risk and portfolio choice calculations illustrate the importance of using arbitrage-free data only.     

LDC Credit-risk Forecasting and Banker Judgement

This paper uses Institutional Investor credit ratings of less-developed countries (LDCs) as indicators of banker judgement. We estimate a linear econometric model of the rating, and examine its predictive performance up to nine years out-of-sample. We conclude that the country-risk assessments of international banks can be validly replicated by a parsimonious econometric model, reflecting a simple combination of a small amount of data.     

Board size and corporate performance: evidence from European countries

This paper examines the effects of board size on corporate performance across a number of European economies. Agency models suggest that large boards may destroy corporate value. Our fixed effects econometric evidence demonstrates that the effect of board size on corporate performance is generally negative. A negative effect is isolated for all five European countries in question when performance is measured as return on equity; this inverse relationship is more difficult to isolate using market-based measures of performance.     

How does electronic trading affect efficiency of stock market and conditional volatility? Evidence from Toronto Stock Exchange

The present paper investigates informational efficiency and changes in conditional volatility of the TSX before and after the implementation of an automated trading system on April 23, 1997. Using a battery of unit root, stationarity, as well as linear tests, we find that the introduction of electronic trading led to an increase in linearity dependence in TSX daily returns. In addition, when we examined the nonlinearity dependences using powerful econometric tests, we find that electronic trading has increased nonlinear dependencies in return series, which is the main cause of rejecting the Random Walk Hypothesis (RWH). Our results suggest that the automated trading system has negatively affected informational efficiency of the TSX. We also find evidence of long memory following automation which suggests that the introduction of electronic trading has increased the level of persistence of information and trading shocks.     

The impact of option introduction on the conditional return distribution of underlying securities

This paper combines several interesting econometric techniques to examine changes in the conditional return distribution of security returns following option introduction. An EGARCH model is used to characterize the return generating process. An intervention analysis is performed to determine whether the parameters of the EGARCH model shift following initial options listing. This paper finds that the conditional distribution of security returns is unaffected by option introduction. Estimation of a transfer function-noise model also shows that option introduction has no effect on conditional volatility.     

STOCK INDEX FUTURES HEDGING: HEDGE RATIO ESTIMATION, DURATION EFFECTS, EXPIRATION EFFECTS AND HEDGE RATIO STABILITY

This paper examines hedging effectiveness for the FTSE-100 Stock Index futures contract from 1984 to 1992. It investigates the appropriate econometric technique to use in estimating minimum variance hedge ratios by undertaking estimations using OLS, an ECM and GARCH. Simple OLS outperforms more complex econometric techniques. Additionally, the paper examines the impact ofhedge duration and time to expiration on estimated hedge ratios and hedge ratio stability over time. It is shown that hedge ratios and hedging effectiveness increase with hedge duration, hedge ratios approach unity as expiration approaches and while hedge ratios vary over time they are stationary.     

Modeling the dynamics of inflation compensation

This paper investigates the relationship between short-term and long-term inflation expectations using daily data on inflation compensation derived from the term structure of real and nominal interest rates. We use a flexible econometric model which allows us to uncover this relationship in a data-based manner. We relate our findings to the issue of whether inflation expectations are anchored, unmoored or contained. Our empirical results indicate no support for either unmoored or firmly anchored inflation expectations. Most evidence indicates that inflation expectations are contained.     

Duration, volume and volatility impact of trades

This paper presents a framework to model duration, volume and returns simultaneously, obtaining an econometric reduced form that incorporates causal and feedback effects among these variables. The methodology is applied to two groups of stocks, classified according to trade intensity. We find that: (1) all stocks exhibit trading volume clustering (which is significantly higher for frequently traded stocks); (2) times of greater activity coincide with a higher number of informed traders present in the market only for the frequently traded stocks; (3) the more frequently traded stocks converge more rapidly (in calendar time) to their long-run equilibrium, after an initial perturbation.     

Estimating the price elasticity of demand in the London stock market

The hypothesis that demand curves for individual stocks slope downwards is typically investigated by empirical analysis of stock price movements following events that cause shifts in demand or supply. However, it is difficult to attribute observed price movements between downward sloping demand curves and information conveyed by the event. In this paper an econometric approach, based on market-maker response to unexpected changes in inventory, is used to separate out the slope of the demand curve from information effects and estimate the slopes of the demand curves for twenty stocks included in the Financial Times-Stock Exchange 100 Share Index (FTSE100). The analysis suggests that downward sloping demand curves would decrease the price by about 7.5% for a 1% increase in the number of outstanding shares.     

The Predictive Power of Anisotropic Spatial Correlation Modeling in Housing Prices

This paper develops a method to capture anisotropic spatial autocorrelation in the context of the simultaneous autoregressive model. Standard isotropic models assume that spatial correlation is a homogeneous function of distance. This assumption, however, is oversimplified if spatial dependence changes with direction. We thus propose a local anisotropic approach based on non-linear scale-space image processing. We illustrate the methodology by using data on single-family house transactions in Lucas County, Ohio. The empirical results suggest that the anisotropic modeling technique can reduce both in-sample and out-of-sample forecast errors. Moreover, it can easily be applied to other spatial econometric functional and kernel forms.     

Recovery rates,default probabilities,and the credit cycle

In recessions, the number of defaulting firms rises. On top of this, the average amount recovered on the bonds of defaulting firms tends to decrease. This paper proposes an econometric model in which this joint time-variation in default rates and recovery rate distributions is driven by an unobserved Markov chain, which we interpret as the “credit cycle”. This model is shown to fit better than models in which this joint time-variation is driven by observed macroeconomic variables. We use the model to quantitatively assess the importance of allowing for systematic time-variation in recovery rates, which is often ignored in risk management and pricing models.     

The residual market factor,the APT,and mean-variance efficiency

The rapidly increasing volume of both published and unpublished work on the arbitrage pricing theory (APT) of Ross (1976) has given rise to a number of misunderstandings at the interface of theoretical and econometric work. In this article we extend the theoretical structure of our previous work (McElroy and Burmeister, 1985, 1988; Burmeister and McElroy, 1987, 1988) to provide a broad yet rigorous framework both for econometric estimation and for better economic interpretation of new empirical results. We begin with the case where allK factors are observed, and then present the second case ofK−1≡J observed APT factors and one unobserved factor, theresidual market factor introduced in McElroy and Burmeister (1985). The economic interpretations for equivalent specifications of this model are discussed, and we enumerate several immediate payoffs to these specifications. The main new results are concerned with the sometimes intricate relationships among APT models withK factors and APT models withK factors that are constrained to satisfy mean-variance efficiency restrictions. These results are not only of theoretical interest, but more importantly they provide the basis for econometric estimation and testing of nested hypotheses. These econometric issues are discussed in detail.     

Liquidity, credit creation and international banking : An econometric investigation

For the past 18 months the Treasury and Civil Service Select Committee of the British House of Commons has been taking evidence from expert witnesses and interested parties concerning International Monetary Arrangements. An important concern of their work has been the inter-relationship between current problems in international bank lending and macroeconomic policies. Our presentation will review the opinions expressed in the Committee's Reports in the light of the econometric evidence we have obtained in our formal paper prepared for this conference. Basically we feel that the current problems facing the international banking system are in no small part due to the increased systematic risk introduced into the system by the macroeconomic policies followed by the industrial countries over the past decade, rather than simply to reckless and imprudent bank management. Further, our econometric evidence suggests that Eurocurrency flows may have a substantial effect on domestic liquidity, in contrast to the accepted view that such flows are unimportant. An underlying major theme of our paper concerns the importance of using modern econometric methods to shed light on current important problems of international financial interdependence.     

Equilibrium exchange rates in Central and Eastern Europe: A meta-regression analysis

This paper analyses the ever-growing literature on equilibrium exchange rates in the new EU member states of Central and Eastern Europe in a quantitative manner using meta-regression analysis. The results indicate that the real misalignments reported in the literature are systematically influenced, inter alia, by the underlying theoretical concepts (Balassa–Samuelson effect, behavioral equilibrium exchange rate, fundamental equilibrium exchange rate) and by the econometric estimation methods. The important implication of these findings is that a systematic analysis is needed in terms of both alternative economic and econometric specifications to assess equilibrium exchange rates.     

The Arrival Rate of Initial Public Offers in the UK

The Initial Public Offer (IPO) is an important event in the development of a firm yet there is little evidence regarding why firms choose certain times to come to the market. This paper extends the available evidence, concentrating on UK data and addressing a number of econometric problems with earlier papers. These advances include acknowledging the non-negative integer characteristics of count data, compensating for non-stationarity in the data, and explicitly testing for causality. The paper examines the incentives to conduct an IPO and the results suggest that both the value and number of IPOs are positively and significantly associated with the level of the stock market, with the introduction of the USM, and, in the case of the number of IPOs, positively and significantly associated with a business cycle indicator. Tests of causality suggest that the stock index predicts both the value and number of IPOs.