Dynamic risk measures: Time consistency and risk measures from BMO martingales

Time consistency is a crucial property for dynamic risk measures. Making use of the dual representation for conditional risk measures, we characterize the time consistency by a cocycle condition for the minimal penalty function. Taking advantage of this cocycle condition, we introduce a new methodology for the construction of time-consistent dynamic risk measures. Starting with BMO martingales, we provide new classes of time-consistent dynamic risk measures. These families generalize those obtained from backward stochastic differential equations. Quite importantly, starting with right-continuous BMO martingales, this construction naturally leads to paths with jumps.      

Dynamic liquidation under market impact

The optimal liquidation problem with transaction costs, which includes a positive fixed cost, and market impact costs, is studied in this paper as a constrained stochastic optimal control problem. We assume that trading is instantaneous and the dynamics of the stock to be liquidated follows a geometric Brownian motion. The solution to the impulse control problem is computed at each time step by solving a linear partial differential equation and a maximization problem. In contrast to results obtained from the static formulation of Almgren and Chriss [J. Risk, 2000 Almgren, R and Chriss, N. 2000. Optimal execution of portfolio transactions. J. Risk, 3: 5–39. [Crossref] , [Google Scholar], 3, 5–39], when risk is not considered, the optimal liquidation strategy from our stochastic control formulation depends on temporary market impact cost and permanent market impact cost parameters. In addition, our computational results indicate the following properties of the optimal execution strategy from the stochastic control formulation. Due to the existence of a no-transaction region, it may not be optimal for some individuals to sell their assets on some trading dates. As the value of the permanent market impact parameter increases, the expected optimal amount liquidated at the terminal time increases. As the value of the quadratic temporary impact cost parameter increases, the expected optimal amount liquidated at trading times tends to be uniform, and the no-transaction region shrinks. In the presence of quadratic temporary market impact costs, in contrast to optimal strategies that result from fixed and/or proportional transaction costs alone, portfolios in the selling region are neither re-balanced into the no-transaction region nor into the sell and no-transaction interface.     

Iterated VaR or CTE measures: A false good idea?

The purpose of this paper is twofold. Firstly, we consider different risk measures in order to determine the solvency capital requirement of a pension fund. Secondly, we illustrate the impact of the time horizon of long-term guarantee products on these capital. We consider a financial market modelled by a common Black–Scholes–Merton model. We neglect the mortality and underwriting risks by assuming that the pension fund is fully hedged against these risks, which allows us to keep understandable and tractable formulæ (the longevity risk will be a part of future researches). A portfolio is built in this market according to different strategies and the pension fund offers a fixed guaranteed rate on a certain time horizon. We begin with well-known static risk measures (value at risk and conditional tail expectation measures) and then we consider their natural dynamic generalization. In order to be time consistent, we consider their iterated versions by a backward iterations scheme. Within the dynamic setting, we show that solvency capital can be expensive and that attention must be paid to the safety level considered.     

Transaction costs and competition among audit firms in local markets

We develop a measure to capture an audit firm's competitive position in a local audit market based on the transaction costs of changing audit firms included in DeAngelo's (1981) multi-period audit pricing model. Our competition measure reflects the size difference between the largest audit firm in a market specified by client industry at the city level and the other audit firms operating in that market. We find that audit fees of a client decrease as this size difference increases. This result suggests that smaller audit firms charge lower audit fees because of their competitive disadvantage to the local largest firm.     

How broker ability affects institutional trading costs

The present paper shows that broker research and trade execution ability has a significant impact on the cost of institutional trading. The results reveal that there is significant variation in the ability of brokers to control execution costs. Trades executed by brokers with stronger research ability exhibit a higher permanent price impact, whereas those executed by brokers with better execution ability exhibit a lower temporary price impact. Brokers are also found to specialize on an industry level that gives rise to variation in ability within a brokerage house.     

Marketing Period Risk in a Portfolio Context: Theory and Empirical Estimates from the UK Commercial Real Estate Market

The role of selling (or marketing) period uncertainty in understanding risk associated with property investment is examined in this paper. Using an approach developed by Lin (2004), and Lin and Vandell (2001, 2005), combined with a statistical model of UK commercial property transactions, we show that the ex ante level of risk exposure for a commercial real estate investor is around one and a half times that obtained from historical statistics. The risk related to marketing time uncertainty can be reduced by constructing a portfolio. We find that at least ten properties are necessary to reduce this risk, assuming independence between marketing period risk and price risk. These findings have important implications for mixed-asset portfolio allocation decisions.      

Tick size change on the Stock Exchange of Thailand

This paper explores the impact of an exogenous tick size reduction on bid-ask spreads, depths, and trading volume on the Stock Exchange of Thailand (SET). On November 5, 2001, the SET implemented a tick size reduction on stocks priced below THB 25. Even though trading on SET is largely dominated by retail investors, the tick reduction produces similar empirical results found in markets where institutional investors are more dominant. Tick reduction on the SET is associated with declines in spreads, and quoted and accumulated market depths. The study finds no significant change in trading volume due to the reduction.