Efficiency in index options markets and trading in stock baskets

Researchers have reported mispricing in index options markets. This study further examines the efficiency of the S&P 500 index options market by testing theoretical pricing relationships implied by no-arbitrage conditions. The effect of a traded stock basket, Standard and Poor’s Depository Receipts (SPDRs), on the link between index and options markets is also examined. We find that pricing efficiency within option markets improves but there is little evidence to support the hypothesis that a stock basket enhances arbitrage across markets. When transactions costs and short sales constraints are included, very few violations of inter-market pricing relationships such as put–call parity are reported. However, violations of within market pricing relationships such as the box spread remain frequent. Extensive analysis suggests that the results are robust.     

Random Walks and Market Efficiency Tests of Latin American Emerging Equity Markets: A Revisit

The few existing studies on equity price dynamics and market efficiency for Latin American emerging equity markets show conflicting results. This study uses multiple varianceratio and auto-regressive fractionally integrated moving-average tests and new data (U.S. dollar-based national equity indices for the 1987–1997 period) to clarify these results. Documented evidence shows that equity prices in major Latin American emerging equity markets — Argentina, Brazil, Chile and Mexico—follow a random walk, and that they are, generally, weak-form efficient. In sum, therefore, the evidence suggests that international investors in these markets cannot use historical information to design systematically profitable trading schemes because future long-term returns are not dependent on past returns.     

Arbitrage, Risk Premium, and Cointegration Tests of the Efficiency of Futures Markets

This article provides a new perspective on the efficiency of futures markets in a cointegration framework. Under the conventional risk premium hypothesis, if futures and spot prices are non-stationary, they must be cointegrated if futures markets are efficient. Alternatively, the cost-of-carry model implies that there should be a cointegration relationship among spot prices, futures prices and interest rates assuming all the series contain a unit root. Market efficiency further implies specific parameter restrictions under these two models. Using data on the futures markets for gold, silver, palladium and platinum, this article first establishes that interest rates, spot and futures prices are unit root non-stationary. The evidence on cointegration is somewhat mixed: the gold futures market is consistent with the cost-of-carry model, and the silver futures market satisfies the risk premium hypothesis, but the evidence for the other two markets is inconclusive.     

Investor structure and the informational efficiency of commodity futures prices

This article investigates the impact of the trading positions of hedgers (i.e., producers, merchants, processors, or users of a commodity), speculators (i.e., commodity pool operators, trading advisors, or hedge funds), and swap dealers on the price formation process in the agricultural, metal, and energy futures markets. The hedgers' relative positions exert negative impacts on price efficiency in commodity futures markets. Hedgers are less likely to be information motivated, so their trading delays the price formation process. However, speculators' positions have positive impacts on price efficiency because speculators correct pricing errors. This study also offers evidence that the role of swap dealers, similar to speculators in futures markets, is to provide liquidity and cross-market arbitrage. These findings highlight the role of producers, hedge funds, and swap dealers in price formation processes in commodity futures—information that is beneficial to academics, practitioners, and regulators.     

Efficiency of the office properties market

This paper reports the results of an efficient markets test of the Dallas-Fort Worth office properties market. ARIMA models using a comprehensive data set did not produce superior forecasts. The results provide further evidence of the efficiency of real estate markets.     

Return predictability in African stock markets

This paper models weekly index returns adjusted for thin trading as a nonlinear autoregressive process with conditional heteroscedasticity to investigate the weak-form pricing efficiency of 11 African stock markets. Specifically, the use of the EGARCH-M model allows us to capture how conditional volatility affects the pricing process without imposing undue restrictions on the parameters of the conditional variance equation. On the basis of such a robust model, we are able to reject the evidence in prior studies that the Nigerian stock market is weak-form efficient. On the other hand, we confirm extant results that the markets in Egypt, Kenya, and Zimbabwe are efficient while that of South Africa is not weak-form efficient. We also generate new results, which point to the efficiency of the stock markets in Mauritius and Morocco, while the markets in Botswana, Ghana, Ivory Coast, and Swaziland are not consistent with weak-form efficiency.     

What drives portfolio investments of German banks in emerging capital markets?

After decades of steady liberalization and financial market development, emerging capital markets experienced unparalleled capital inflows in the aftermath of the emerging markets crisis of the 1990s. This paper studies portfolio investment decisions of German banks in emerging capital markets from 2002 to 2007. The use of a dynamic time-series cross-section framework and the micro database External Position Report provided by Deutsche Bundesbank permit insights into the various determinants of portfolio investments in ECMs. For example, there is evidence that German banks take into account the various dimensions of financial market development in their portfolio investment decisions and anticipate the special risks inherent in emerging markets. Proxies for the overall development and efficiency of capital markets have the highest economic significance of all variables. The introduction of depositary receipts programs has a positive impact on stock market investment. Moreover, there is evidence that global risk aversion exerts a significant influence in times of financial turmoil.     

An Empirical Analysis of Stock Prices in Major Asian Markets and the United States

This study uses unit root and cointegration tests to examine the relationships among the stock markets in Hong Kong, South Korea, Singapore, Taiwan, Japan, and the United States. All the stock prices are analyzed both individually and collectively to test for international market efficiency. Unit roots in stock prices are found. Pairwise and higher-order cointegration tests indicate that there is no evidence of cointegration among the stock prices. The findings suggest that the stock prices in major Asian markets and the United States are weak-form efficient individually and collectively in the long run. It also implies that international diversification among the markets is effective.     

Financial crisis and stock market efficiency: Empirical evidence from Asian countries

This paper empirically investigates the effects of the 1997 financial crisis on the efficiency of eight Asian stock markets, applying the rolling bicorrelation test statistics for the three sub-periods of pre-crisis, crisis, and post-crisis. On a country-by-country basis, the results demonstrate that the crisis adversely affected the efficiency of most Asian stock markets, with Hong Kong being the hardest hit, followed by the Philippines, Malaysia, Singapore, Thailand and Korea. However, most of these markets recovered in the post-crisis period in terms of improved market efficiency. Given that the evidence of nonlinear serial dependencies indicates equilibrium deviation resulted from external shocks, the present findings of higher inefficiency during the crisis are not surprising as in the chaotic financial environment at that time, investors would overreact not only to local news, but also to news originating in the other markets, especially when the news events were adverse.     

Mean reversion in Southeast Asian stock markets

This paper assesses the predictable component of South East Asian stock markets using a bootstrap resampling method to estimate the small sample distributions of variance ratio statistics. We find evidence of mean reversion in long horizon dollar adjusted excess returns. The robustness of the results is assessed by adjusting stock returns for potential time-varying expected returns and partial integration of these emerging markets into world capital markets. In all but one case, mean reversion is shown to be due to either time-variation of risk exposure and prices of risk or partial integration of the local market into world stock markets. These results clearly illustrate the dangers of testing market efficiency without carefully adjusting stock returns for time variation in expected returns and the partial integration of local markets into world markets.     

Short-selling and cost of equity: evidence from China

In this study, we take advantage of the gradual lifting of the short-selling ban in China and find that firms affected by the lifting of the ban experience a lower cost of equity. In addition, the affected firms also incur less earnings management, higher market liquidity and higher investment efficiency. Further evidence shows that firms’ cost of equity increases after their stocks are no longer eligible for short selling. Our inferences are robust to alternative measures of cost of equity, and to using a propensity score-matched sample. Our study contributes to the literature by providing evidence that short sellers play a monitoring role in the Chinese stock markets and sheds light on the benefits of short selling in emerging markets.     

Earnings characteristics and analysts’ differential interpretation of earnings announcements: An empirical analysis

This study provides empirical evidence on factors that drive differential interpretation of earnings announcements. We document that Kandel and Pearson's forecast measures of differential interpretation are decreasing in proxies for earnings quality and pre‐announcement information quality. This evidence yields new and useful insights regarding which earnings announcements are less likely to generate newfound disagreement among analysts and investors. Recent research suggests that investor disagreement can increase investment risk, increase the cost of capital, and cause stock prices to deviate from fundamental value. Therefore, our results support prior intuition that increasing the quality of earnings and pre‐announcement information can improve the efficiency of capital markets.     

Market Efficiency and the Returns to Simple Technical Trading Rules: New Evidence from U.S. Equity Market and Chinese Equity Markets

Numerous studies in the finance literature have investigated technical analysis to determine its validity as an investment tool. This study is an attempt to explore whether some forms of technical analysis can predict stock price movement and make excess profits based on certain trading rules in markets with different efficiency level. To avoid using arbitrarily selected 26 trading rules as did by Brock, Lakonishok and LeBaron (1992) and later by Bessembinder and Chan (1998), this paper examines predictive power and profitability of simple trading rules by expanding their universe of 26 rules to 412 rules. In order to find out the relationship between market efficiency and excess return by applying trading rules, we examine excess return over periods in U.S. markets and also compare the excess returns between U.S. market and Chinese markets. Our results found that there is no evidence at all supporting technical forecast power by these trading rules in U.S. equity index after 1975. During the 1990s break-even costs turned to be negative, –0.06%, even failing to beat a buy-holding strategyin U.S. equity market. In comparison, our results provide support for the technical strategies even in the presence of trading cost in Chinese stock markets.     

An empirical analysis of the equity markets in China

This paper subjects the newly established stock markets in Shanghai and Shenzhen to tests of market efficiency, utilizing daily stock price data. Using a battery of tests, the study concludes that there are significant inefficiencies present on both exchanges. These can be traced to the unique structural and institutional problems that plague both exchanges. The study also tests for the presence of seasonal anomalies on both exchanges. The results show that there are significant negative weekend and positive holiday effects, but there is no evidence of a January effect or early January effect.     

Do foreign institutional investors destabilize China’s A-share markets?

This paper investigates the effect of foreign institutional investors on the stability of Chinese stock markets. Previous literature views this investor group as destabilizing feedback traders. We use the abolition of ownership restrictions on A shares as a natural experiment. There is strong evidence that foreign institutions have a stabilizing effect on Chinese stock markets and contribute to market efficiency. This finding is robust across exchanges, sample periods, size quintiles and alternative model specifications. By contrast, domestic investors appear to engage in positive feedback trading. Our results have important implications for market regulation.     

Are Asian stock markets efficient? Evidence from new multiple variance ratio tests

This paper tests for the martingale hypothesis in the stock prices of a group of Asian markets. We use new multiple variance ratio tests based on the wild bootstrap and signs. These are non-parametric finite sample tests, which do not rely on large sample theories for statistical inference. This paper also presents Monte Carlo results that these non-parametric tests show superior small sample properties to those of the conventional Chow–Denning test. Both weekly and daily data from 1990 are considered, while moving sub-sample windows are used for the latter to control the sensitivity of the results to a particular sample period. It is found that the Hong Kong, Japanese, Korean and Taiwanese markets have been efficient in the weak-form. The markets of Indonesia, Malaysia and Philippines have shown no sign of market efficiency, despite financial liberalization measures implemented since the eighties. We have also found evidence that the Singaporean and Thai markets have become efficient after the Asian crisis. In general, the results point toward the notion that the pricing efficiency of a market depends on the level of equity market development as well as the regulatory framework conducive of transparent corporate governance.     

Creditor rights and the corporate bond market

This study examines whether investor protection affects capital markets, specifically the development of corporate bond markets versus equity markets. Using a dataset of 42 countries, we show that countries with strong creditor rights have more developed corporate bond markets than equity markets. However, we find only weak evidence that countries with stronger shareholder protection have more developed equity markets than corporate bond markets. Additionally, we find that the effect of financial reforms on capital markets is strongly dependent on the strength of investor protection and on the associated information disclosure in a given country.     

Dynamic efficiency and arbitrage potential in Bitcoin: A long-memory approach

Employing a long-memory approach, we provide a study of the evolution of informational efficiency in five major Bitcoin markets and its influence on cross-market arbitrage. While all the markets are close to full informational efficiency over the whole sample period, the degree of market efficiency varies across markets and over time. The cross-market discrepancy in market efficiency gradually vanishes, suggesting the segmented markets are developing to a consensus where all markets are equally efficient. Through a fractionally cointegrated vector autoregressive (FCVAR) model we show that when the efficiency in Bitcoin/USD and Bitcoin/AUD markets improves the cross-market arbitrage potential narrows, whereas it widens when the efficiency in Bitcoin/CAD, Bitcoin/EUR, and Bitcoin/GBP markets improves. A battery of robustness checks reassure our main findings.     

Testing Efficiency Across Markets: Evidence from the NCAA Basketball Betting Market

This study utilizes the National Collegiate Athletic Association basketball point spread betting market to investigate whether differences in information availability across markets result in different relative efficiencies of price formation within those markets. Using intra-conference games of various conferences as clearly defined markets, we show that these markets are efficient given the information available in those markets. However, we also show that regression error variances are significantly smaller (greater) for those conferences with greater (lesser) information availability. This evidence supports previous stock market research suggesting that differential fundamental information availability across stock markets results in differential departures from equilibrium values.     

Long-run dynamics of official and black-market exchange rates in Latin America

This paper attempts to investigate the long-run dynamic relationship between official and black-market exchange rates for four Latin America markets namely, Argentina, Brazil, Chile, and Mexico. We follow (Moore, M. J., & Phylaktis, K. (2000). Black and official exchange rates in the Pacific Basin: Some tests of dynamic behaviour. Applied Financial Economics, 10, 361–369.) and we distinguish between long-run informational efficiency and short-run predictability in a sense that these notions are compatible with cointegration and error-correction mechanisms (ECM). Our findings indicate a constant black-market premium for each country, which is taken as strong support for long-run informational efficiency between the official and black markets for foreign currency. In addition, the evidence of short-run predictability is not considered as a violation of market efficiency, but it is the outcome of optimal arbitrage by rational economic agents.