Optimal portfolio choices using financial leverage

This paper investigates the role of leverage in determining the investor's optimal asset allocation over multiperiod investment horizons. To do this, we allow investors to lever their financial position by borrowing from credit markets. GMM methods are used to estimate and test the optimal portfolio weights and individual's optimal choice of financial leverage. These optimal choices are assumed to be parametric functions of a set of state variables describing the evolution of the economy. The empirical application of this methodology to a portfolio of cash, bonds and stocks reveals that a) financial leverage limits the reaction of investors to changes in the investment opportunity set; b) individuals increase leverage during recessions and deleverage in expansionary periods; c) optimal portfolio weights and financial leverage are negatively related to the degree of investor's risk aversion and positively related to the investment horizon.     

Investment horizon effect on asset allocation between value and growth strategies

How does the optimal risk exposure of assets change as their investment horizons increase? Does this impact investment portfolio decision-making, in particular, optimal asset allocation between value and growth strategies over various investment horizons? This paper adopts a new approach to address these questions by examining portfolio allocation between value and growth stocks over various investment horizons. This new approach is based on wavelet analysis, which decomposes the returns of a particular investment strategy across multiple investment horizons. The key empirical results show that the success of pursuing the value strategy (short-selling growth stocks and going long on value stocks) is impacted by the approach used to classify value and growth stock returns. We explore two common alternatives: Fama-French versus Standard & Poor's (S&P) 500/Barra portfolios. The results using Fama-French portfolios show that as the investment horizon increases, the optimal mean allocation of investors tilts heavily away from growth stocks, particularly for lower and moderate levels of risk aversion. Interestingly, for S&P 500/Barra portfolios the allocation weights between value and growth do not vary much.     

Global financial crisis and dependence risk analysis of sector portfolios: a vine copula approach

We use regular vine (r-vine), canonical vine (c-vine) and drawable vine (d-vine) copulas to examine the dependence risk characteristics of three 20-stock portfolios from the retail, manufacturing and gold-mining equity sectors of the Australian market in periods before, during and after the 2008–2009 global financial crisis (GFC). Our results indicate that the retail portfolio is less risky than the manufacturing counterpart in the crisis period, while the gold-mining portfolio is less risky than both the retail and manufacturing sector portfolios. Both the retail and gold stocks display a higher propensity to yield positively skewed returns in the crisis periods, contrary to the manufacturing stocks. The r-vine is found to best capture the multivariate dependence structure of the stocks in the retail and gold-mining portfolios, while the d-vine does it for the manufacturing stock portfolio. These findings could be used to develop dependence risk- and investment risk-adjusted strategies for investment, rebalancing and hedging which more adequately account for the downside risk in various market conditions.     

Testing rebalancing strategies for stock-bond portfolios across different asset allocations

We compare the risk-adjusted performance of stock–bond portfolios between rebalancing and buy-and-hold across different asset allocations by reporting statistical significance levels. Our investigation is based on a 30-year dataset and incorporates the financial markets of the United States, the United Kingdom and Germany. To draw useful recommendations to investment management, we implement a history-based simulation approach which enables us to mimic realistic market conditions. Even if the portfolio weight of stocks is very low, our empirical results show that a frequent rebalancing significantly enhances risk-adjusted portfolio performance for all analysed countries and all risk-adjusted performance measures.     

Fuzzy possibilistic portfolio selection model with VaR constraint and risk-free investment

We propose a possibilistic portfolio model with VaR constraint and risk-free investment based on the possibilistic mean and variance, while assuming that the expected rate of returns is a fuzzy number. The model shows more clearly that, in the financial market affected by several non-probabilistic factors, risk-averse investors wish not only to reach the expected rate of returns in their actual investment, but also to assure that the maximum of their possible future risk is lower than an expected loss. Under the condition that the expected rate of returns is a normal distribution fuzzy variable, we proposed a theorem as the solution, and derive a crisp equivalent form of the possibilistic portfolio under constraints of VaR and risk-free investment. This model is an expansion of the fuzzy possibilistic mean–variance model by Zhang (2007). Finally, an empirical study is carried out using the data concerning some stocks of various industries listed at the Shanghai Stock Exchange. A conclusion is reached that the investors are able to choose a portfolio more suitable to them under the VaR constraint.     

中国股市价值反转投资策略有效性实证研究

本文以中国深沪A股股票市场为考察对象 ,分析了价值反转投资策略的有效性。作者通过实证分析发现 :在中国深沪A股股票市场上 ,以帐面价值与市场价值比 (B M)、B M GS等指标构造的价值反转投资策略可以产生显著的超额收益率 ,并且其显著程度因持有期不同而不同。接着 ,作者利用CAPM模型、Fama French三因素模型并引入了协偏度 (coskewness)和协峰度 (cokurtosis) ,构造出多风险因子模型来解释价值反转投资策略超额收益率。我们发现 :在经过传统风险因素调整后 ,价值反转投资策略效果依然明显 ;CAPM模型无法解释价值反转投资策略超额收益率 ;Fama French三因素模型对价值反转投资策略超额收益率的解释能力最为显著 ,但对于有些价值投资策略 ,在Fama French三因素基础上加上协偏度和协峰度因子后 ,模型的解释能力有所提高     

Mesdames et Messieurs,momentum performance is not so abnormal after all!

This article provides evidence regarding the performance of momentum investment strategies that is consistent with the Neoclassical Theory. More specifically, while momentum investment returns appear orthogonal to systematic risk in the extant literature, this article illustrates that they are due to correlated changes of hedge portfolio systematic risk exposures with market conditions. Momentum portfolios are excellent market timers in both expanding and contracting markets. Their returns however are generally not abnormal when timing is considered in an augmented unconditional Capital Asset Pricing Model (CAPM), while the standard version erroneously considers them to be so, possibly explaining why momentum studies have so far rejected the Neoclassical Theory.     

Prior investment outcomes and stock investment in defined contribution plans

In this study, we employ the 2001–2013 Survey of Consumer Finances to examine how prior investment outcomes affect portfolio allocation in defined contribution (DC) plans. Results show that investors with prior gains are more likely to invest all DC plan assets in stocks. Factors such as risk tolerance and investment horizon positively affect investors’ tendency to allocate all DC assets to stocks. These findings have important implications for investors, researchers and financial professionals.     

Asset pricing with time-varying betas for stocks traded on S&P 500

This study uses a novel approach for capturing time variation in betas whose pattern is treated as a function of market returns. A two-factor model (TFM) is constructed using estimated coefficients of a nonlinear regression. The model is tested against the CAPM and the Fama and French three-factor model in the context of time series regressions. The used stocks are traded on S&P 500. The period spans from 1993 to 2011. The time series regression results depict the superiority of the TFM in explaining portfolio returns including momentum ones. We also provide evidence that the particular portfolios employed at the construction of the new model accommodate different fundamental characteristics and different risk levels.     

China's liberalizing stock market,crude oil,and safe-haven assets: A linkage study based on a novel multivariate wavelet-vine copula approach

China is the world's largest oil importer, and therefore the correlations between stock indices and highly volatile oil prices deserve close examination when investing in China's gradually liberalizing stock market. Another concern for international investors is whether safe-haven assets can reduce portfolio risks for investment in China. The paper makes two main contributions. First, we develop a novel method of examining a multivariate dependence structure by combining wavelet analysis with the vine copula model. Second, we apply the proposed methodology to study the correlations between China's liberalizing stock market, petroleum, and safe-haven assets at different frequencies. We find that the multidimensional dependence of these assets has been altered as a result of the 2008 global financial crisis. Moreover, the vine structures exhibit dependence patterns that vary over time horizons, indicating that the multidimensional dependence is sensitive to time scales.     

A contingent claim analysis of a rate-setting financial intermediary

Realizing that a financial intermediary's lending, treated as an investment opportunity, is like a financial call option clarifies the role of uncertainty. We argue that the portfolio-theoretic approach and the firm-theoretic approach have important linkages that can be used to demonstrate the contingent claim analysis of a rate-setting financial intermediary. Borrower-intermediary-lender relationships between the portfolio-theoretic combined volatilities and the firm-theoretic rate-setting modes under the Black-Scholes valuation are investigated, and the conclusions depend upon the portfolio composition redistribution effect. The effect of changes in the open market security rates on the loan rate and deposit rate settings depend on the borrower-intermediary-lender relationship, portfolio risk, and management of rate-setting strategy. Moreover, movements in open market security rates are not necessarily transmitted to the loan lender and deposit absorber.     

短期跨境资本流动、金融市场与系统性风险*

由于2008年美国金融危机而导致的全球经济危机一直在延续,系统性金融风险的防范已经成为全球各国政府和金融监管机构共同的课题。而随着人民币国际化的开展和我国跨境资本流动受关注程度的提高,短期跨境资本流动对系统性风险的潜在影响越来越成为一个不容忽视的议题。本文使用SRISK指标测度了我国的系统性风险,并通过构建传统VAR模型和VAR MGARCH DCC模型,对我国“8·11”汇改前后的短期跨境资本流动、系统性风险、股票价格收益率、人民币在离岸利差、离岸人民币与美元利差五变量及其波动性之间的联动关系进行了检验。实证研究证明,我国短期跨境资本流动与系统性风险及两者波动性之间均存在明显的关联关系。     

On trees and logs

In this paper we contrast the main workhorse model in asset pricing theory, the Lucas (1978) tree model (LT-Model), to a benchmark model in financial equilibrium theory, the real assets model (RA-Model). It is commonly believed that the two models entail similar conclusions since the LT-Model is a special case of the RA-Model. But this is simply wrong: implications of these models can be strikingly at odds. Indeed, under the widely used log-linear specification of households’ preferences, we show that for a large set of initial endowments the LT-Model—even with potentially complete financial markets—admits only peculiar financial equilibria in which the stock market is completely degenerate, in that all stocks offer the same investment opportunity—and yet, allocation is Pareto optimal. We investigate why the LT-Model is so much at variance with the RA-Model, and uncover new results on uniqueness of financial equilibria and introduction of portfolio constraints obtaining in the LT-Model, but not in the RA-Model.     

Quantile spillovers and dependence between Bitcoin,equities and strategic commodities

This paper has two aims. We first examine the dynamic spillovers between Bitcoin and 12 developed equities, gold, and crude oil for different market conditions using a Bayesian Time-Varying Parameter Vector Autoregressive (TVP-VAR) model with daily spot prices. Our econometric approach enables us to capture the left and right tails as well as the shoulders of the return distribution corresponding to volatility spillovers under the bear, normal, and bull market states among these financial assets. We quantify and trace the dependence and directional predictability from Bitcoin to other assets using the sample cross-quantilogram. Our key findings offer convincing evidence of time variation in the level of volatility. Spillovers between Bitcoin and other financial assets intensify during extreme global market conditions. Secondly, results from the cross-quantilogram indicate strong dependence and positive directional predictability between Bitcoin and most equities and crude oil when market returns are bullish. However, during the bearish market period, there is negative dependence and predictability from Bitcoin to stocks in Finland, the Netherlands, the U.S.A, and the crude oil market only. This implies that Bitcoin can act as a hedge to stocks in Finland, the Netherlands, the U.S.A, and the crude oil market. However, insignificant dependence and directional predictability from Bitcoin to the remaining assets indicate that Bitcoin may act as a safe-haven to these assets during bearish markets. Our findings hold important implications for both international investors and portfolio managers who consider Bitcoin as part of their portfolio diversification and other investment strategies.     

Analysing dynamic linkages and hedging strategies between Islamic and conventional sector equity indexes

This study analyses the dynamic spillovers across 10 Dow Jones Islamic and conventional sector index pairs. Using various multivariate GARCH models, the results show significant time-varying conditional correlations for all the pairs. Moreover, there is evidence that the conditional correlations for all the sector pairs, except those of the Telecommunication and Utilities sectors, increase after the onset of the global financial crisis (GFC), suggesting non-subsiding risks, contagion effects and gradual greater financial linkages. The Islamic sectors’ risk exposure can be effectively hedged over time in diversified portfolios containing conventional sector stocks. These results provide several practical implications for portfolio managers and policymakers in regard to optimal asset allocations, portfolio risk management and the diversification benefits among these markets.     

投资基金应用金融衍生品的策略研究

股指期货等金融衍生品即将在我国推出,如何应用金融衍生品引起了投资基金的高度关注。本文认为投资基金可以运用金融衍生品来进行替代投资、优化投资、管理市场风险和管理流动性风险,并提出了相应的应用策略。     

Further evidence on international Islamic and conventional portfolios diversification under regime switching

This article investigates the comparative performance of International Islamic and conventional portfolio diversification across different financial market regimes and provides an optimal choice from an American investor’s viewpoint during the period 2002–2014. Using a bootstrap-based stochastic dominance (SD) test and monthly MSCI prices of Islamic stock market indices and their conventional counterparts in 38 countries from North and Latin America, Europe and Asia-Pacific regions, we find that SD relationships between Islamic and conventional optimal-diversified portfolios change systematically according to investment region and market regime. Essentially, for all regimes, US investors are indifferent between Islamic diversification and its conventional counterpart, which implies that arbitrage diversification opportunities are rare and short lived in all regions. However, across all regions, especially in a crisis regime, Islamic portfolio diversification can be a good substitute for conventional diversification. Islamic portfolio diversification in North and Latin America, Europe and Global regions is an optimal choice for the risk-averse American investors. Finally, results imply that portfolio diversification among Islamic market indices can be a good hedge, offering investors superior investment alternatives during any financial meltdown or economic slowdown due to the conservative nature of Sharia-compliant investments.     

Does aggregate uncertainty explain size and value anomalies?

This paper examines the impact of aggregate uncertainty on return dynamics of size and book-to-market ratio sorted portfolios. Using VVIX as a proxy for aggregate uncertainty, and controlling for market risk, volatility risk, correlation risk and the variance risk premium, we document significant portfolio return exposures to aggregate uncertainty. In particular, portfolios that contain small and value stocks have significant and negative uncertainty betas, whereas portfolios of large and growth stocks exhibit positive and significant uncertainty betas. Using a quasi-natural experimental setting around the financial crisis, we confirm the differential sensitivity of small versus big and value versus growth portfolios to aggregate uncertainty. We posit that due to their negative uncertainty betas, uncertainty-averse investors demand extra compensation to hold small and value stocks. Our results offer an uncertainty-based explanation to size and value anomalies.     

Does it really pay to do better? Exploring the financial effects of changes in CSR ratings

Previous literature on the link between corporate social responsibility (CSR) and financial performance has focused mainly on the financial implications of a firm’s level of CSR without considering the potential effects on financial performance of variations in CSR rating. We try to fill this gap by studying whether variations in a firm’s CSR rating affect systematic risk, firm value, and portfolio performance. First, our results show that an increase in firms’ CSR efforts, as reflected by an increase in their CSR ratings, significantly reduces systematic risk. Second, a positive variation in CSR ratings significantly improves firm value. Finally, from a portfolio perspective, a strategy that consists of buying stocks that have experienced a CSR ratings increase and selling stocks that have experienced a CSR ratings decrease (or remain stable) leads to lower financial performance. Taken together, our findings provide new evidence and financial implications for firms and portfolio managers.     

The relation between asset growth and the cross-section of stock returns: Evidence from the Chinese stock market

This study examines the effect of firm investment on stock returns by using data on the Chinese stock market. We find that stocks with higher investment experience lower future returns and there is an obvious investment effect in the Chinese stock market. The investment effect is stronger for firms that have higher cash flows, lower debt or for state-owned firms. We further explore the relation between investment and returns over the 3 years around portfolio formation. The results show that the high investment firms earn higher returns than low investment firms before portfolio formation; however the high investment firms earn lower returns than low investment firms after portfolio formation, such evidence is supportive of investor's overreaction explanation. Additionally, the stock returns don't necessarily decrease after investment, and the stock returns don't significantly positively correlate with firm profitability or book-to-market, so the result don't support risk-based explanation. Overall, both our portfolio sort and two-stage cross-sectional regression analysis show that behavioral finance theories are better than risk-based theories in explaining the investment anomaly. Evidence from the Chinese stock market provides a useful perspective to understand the debate on the investment anomaly.