Investor yield and gross underwriting spread comparisons among U.S. dollar domestic,Yankee, Eurodollar,and global bonds

The characteristics and features of domestic, foreign, Eurobonds, and global bonds differ from one another, as do their regulation. We develop regression models to compare investor yield differences that should logically exist at issuance for these bond market segments for U.S. dollar denominated bonds. Our empirical results show that, ceteris paribus, both privately placed and Rule 144A Eurodollar issues yield more than publicly placed bonds; Yankee bonds yield insignificantly more than domestic bonds; and, the bearer feature common to Eurodollar bonds is not prized enough by institutional investors for them to accept a lower yield relative to domestic or Yankee bonds. We do not find a statistically significant difference between the investor yield spread on U.S. dollar global bonds and U.S. domestic bonds, or Yankee bonds, or Eurodollar bonds. We also study underwriting costs of publicly traded bonds and find, ceteris paribus, that Eurodollar bonds are far more costly for the firm to issue than domestic bonds, Yankee bonds, or global bonds; domestic and Yankee bonds are more expensive than global bonds; and, there is no significant cost difference between domestic and Yankee bonds.     

Dynamic linkages between emerging European and developed stock markets: Has the EMU any impact?

This paper investigates the short- and long-run behavior of major emerging Central European (Poland, Czech Republic, Hungary, Slovakia), and developed (Germany, US) stock markets and assesses the impact of the EMU on stock market linkages. Evidence of one cointegration vector in both a pre- and a post-EMU sub-period indicates market comovements towards a stationary long-run equilibrium path. Central European markets tend to display stronger linkages with their mature counterparts, whereas the US market holds a world leading influential role. No dramatic post-EMU shock is detected in stock market dynamics. The empirical findings have important implications for the effectiveness of domestic policy decisions, as the emerging Central European states have recently joined the EU and local stock markets may become less immunized to external shocks.     

Changing integration of EMU public property markets

This paper examines the impact of the European Monetary Union (EMU) on European public property market integration. Results indicate that the property markets are long-run independent and show little evidence of short-run relationships prior to the formation of the EMU. However, the degree of interdependence and the extent of convergence among the largest property markets have intensified substantially after the launch of the Euro as the common currency in January, 1999. Moreover, each of the property markets under consideration is endogenous in that none is found to “dominate” the others toward long-run equilibrium. Short-run results indicate substantial interrelationships among the markets after the adoption of the Euro. Finally, the study shows that stock markets, bond markets, and public property markets follow similar convergence patterns.     

The comovement of US and German bond markets

We use a vector-autoregression, with parameter estimates corrected for small-sample bias, to decompose US and German unexpected bond returns into three ‘news’ components: news about future inflation, news about future real interest rates, and news about future excess bond returns (term premia). We then cross-country correlate these news components to see which component is responsible for the high degree of comovement of US and German bond markets. For the period 1975-2003 we find that inflation news is the main driving force behind this comovement. When news is coming to the US market that future US inflation will increase, there is a tendency that German inflation will also increase. This is regarded bad news for the bond market in both countries whereby bond prices are bid down leading to immediate negative return innovations and changing expectations of future excess bond returns. Thus, comovement in expected future inflation is the main reason for bond market comovement.     

The term structure of interbank risk

We infer a term structure of interbank risk from spreads between rates on interest rate swaps indexed to the London Interbank Offered Rate (LIBOR) and overnight indexed swaps. We develop a tractable model of interbank risk to decompose the term structure into default and non-default (liquidity) components. From August 2007 to January 2011, the fraction of total interbank risk due to default risk, on average, increases with maturity. At short maturities, the non-default component is important in the first half of the sample period and is correlated with measures of funding and market liquidity. The model also provides a framework for pricing, hedging, and risk management of interest rate swaps in the presence of significant basis risk.     

Stock market liberalization and operating performance at the firm level

I use firm-specific measures of openness to foreign investors to study the impact of stock market liberalization on firm-level operating performance. In a sample of over 1,100 firms from 28 countries, firms with stocks that are open to foreign investors experience higher growth, greater investment, greater profitability, greater efficiency, and lower leverage. Strategies to address potential endogeneity suggest that the observed relation reflects, at least in part, a causal effect of openness on operating performance.     

The introduction of the Euro and its effects on portfolio decisions

Examining investment behavior related to the Euro introduction, we address the relevance of different investment determinants. With the advent of the currency union two potential sources of portfolio reallocation can be distinguished: First, the diminishment of exchange rate risk and transaction costs within the EMU. Second, the increase of correlation of EMU returns so that diversification benefits decreased. We test for structural breaks in the holdings of German investors and estimate a market model to account for the two effects. A significant decrease in national and an increase in EMU and rest-of-the-world investments can be observed. Comparing the observed holdings with benchmark portfolios, we find that investment home bias has diminished since the Euro introduction.     

Financial contagion and the real economy

This paper studies the spread of the Global Financial Crisis of 2007–2009 from the financial sector to the real economy by examining ten sectors in 25 major developed and emerging stock markets. The analysis tests different channels of financial contagion across countries and sectors and finds that the crisis led to an increased co-movement of returns among financial sector stocks across countries and between financial sector stocks and real economy stocks. The results demonstrate that no country and sector was immune to the adverse effects of the crisis limiting the effectiveness of portfolio diversification. However, there is clear evidence that some sectors in particular Healthcare, Telecommunications and Technology were less severely affected by the crisis.     

Interest rate deregulation: Monetary policy efficacy and rate rigidity

This paper examines the effects of interest rate regulation, and subsequent deregulation, on the efficacy of monetary policy and rigidity of retail bank deposit rates in Hong Kong. Using an error-correction model, we find that interest rate deregulation increases the efficacy of monetary policy by improving the correlation between retail bank deposit rates and market interest rates and increasing the degree of long-term pass-through for retail bank deposit rates. Our study also shows that the adjustments in retail bank deposit rates are asymmetric and rigid upwards during the regulated period, but tend to be rigid downwards during the deregulated period. The spreads between retail bank deposit rates and market rates have also tightened sharply after the removal of interest rate controls.     

Go long or short in pyramids? News from the Egyptian stock market

Similar to other emerging economies, the Egyptian stock market has recently experienced a remarkable run-up but also a major downturn. This paper analyzes the stock market from two angles. First, it compares the performance of the major stock price index with its underlying fundamentals. Second, it explores the relationship between the Egyptian and other stock markets. The paper finds that (i) there is some evidence against a stable relationship between the Egyptian index and its fundamental value; and (ii) short-term correlations and long-term cointegrating relations provide conflicting signals on the value of Egyptian stocks as a means of diversification.     

Macroeconomic announcements, volatility, and interrelationships: An examination of the UK interest rate and equity markets

This study investigates the intraday and daily pricing behavior of UK interest rate and equity index futures contracts. The paper initially examines the response of Short Sterling, Long Gilt, and FTSE100 to the release of scheduled macroeconomic announcements before employing dynamic time series techniques in order to reveal the nature of causal transmission patterns between these variables. In brief, short-term interest rates were found to be highly sensitive to indicators of prevailing economic conditions. However, the release of data important in the formation of inflationary expectations had a relatively subdued impact on long-term rates. Announcement effects appear somewhat ambiguous for the stock market. The analysis also reveals the bid-ask bounce and swift mean reversion in volatility to be important behavioral features of the return-generating process. Whilst the three variables appear to be bound by two cointegrating relationships, the tests for lead/lag relationships produce mixed results.     

The dark side of global integration: Increasing tail dependence

We measure stock market coexceedances using the methodology of Cappiello, Gerard and Manganelli (2005, ECB Working Paper 501). This method enables us to measure comovement at each point of the return distribution. First, we construct annual coexceedance probabilities for both lower and upper tail return quantiles using daily data from 1974–2006. Next, we explain these probabilities in a panel gravity model framework. Results show that macroeconomic variables asymmetrically impact stock market comovement across the return distribution. Financial liberalization significantly increases left tail comovement, whereas trade integration significantly increases comovement across all quantiles. Decreasing exchange rate volatility results in increasing lower tail comovement. The introduction of the euro increases comovement across the entire return distribution, thereby significantly reducing the benefits of portfolio diversification within the euro area.     

Has the CDS market influenced the borrowing cost of European countries during the sovereign crisis?

This paper assesses the potential influence of the growing CDS market on the borrowing cost of sovereign states during the European sovereign crisis. We analyze the sovereign debt market to ascertain the pattern of information transmission between the CDS and corresponding bond markets. Our methodological innovation is the use of a non-linear specification rather than the linear VECM specification customarily employed. Using a panel smooth transition model during the 2008–2010 period, we find that: 1) linearity tests clearly reject the null hypothesis of a linear transmission mechanisms between the bond and the CDS markets; 2) market distress alters the mutual influence and 3) the higher the distress the more the CDS market dominates the information transmission between CDS and bond markets.     

Level-ARCH short rate models with regime switching: Bivariate modeling of US and European short rates

This paper introduces regime switching into level-ARCH models for the short rates of the US, the UK, and Germany. Once regime switching and level effects are included there are no gains from including ARCH effects. It is of secondary importance how the regime switching is specified. The estimated level parameters differ across countries. The corresponding new bivariate models show that the states of the US and UK short rate volatilities are not independent nor identical. There is Granger causality from the US to the UK short rate volatility state but not vice versa. There is no contagion between the US and UK volatility states. Equivalent results apply to the relation between the US and German volatility states.     

Have the GIPSI settled down? Breaks and multivariate stochastic volatility models for,and not against,the European financial integration

We investigate the integration of the European peripheral financial markets with Germany, France, and the UK using a combination of tests for structural breaks and return correlations derived from several multivariate stochastic volatility models. Our findings suggest that financial integration intensified in anticipation of the Euro, further strengthened by the EMU inception, and amplified in response to the 2007/2008 financial crisis. Hence, no evidence is found of decoupling of the equity markets in more troubled European countries from the core. Interestingly, the UK, despite staying outside the EMU, is not worse integrated with the GIPSI than Germany or France.     

When and how US dollar shortages evolved into the full crisis? Evidence from the cross-currency swap market

This paper investigates when and how the US dollar shortages evolved into the full crisis in the cross-currency swap market between major European currencies and the US dollar during the turmoil of 2007-2009, using the dynamic factor model with regime-switching β coefficients of each swap price with respect to the latent common factor. The 1-year market entered the high-β crisis regime soon after the onset of the subprime problem in August 2007. The 10-year market entered that regime following the collapse of Bear Sterns in mid-March 2008. Financial credit spreads have significant predictive power for switches between high and low-β regimes.     

Modelling the term structure of interest rates: An efficient nonparametric approach

We propose a new approach for estimating the coefficients of the term structure equation by means of the volatility of the interest rates and the slope of the yield curve. One advantage of this approach consists in the fact that the drift and the market price of risk are jointly estimated and need not be individually specified. We then generate trajectories in a test problem to investigate the finite properties of this approach. Our simulation results show that this new approach outperforms the classic nonparametric models in the literature. Finally, an application to USA Treasury Bill data is also illustrated.     

Equity market integration in the Asia Pacific region: Evidence from discount factors

The paper investigates stock market integration among 10 economies in the Asia Pacific region over the period April to May 2006 based on a recently developed technique that relies on estimating expected discount rates; see [Flood and Rose, 2005a] and [Flood and Rose, 2005b]. The results show a limited but varying degree of stock market integration among the 10 economies. Membership in a formal economic organization does not seem to affect the degree of integration.     

Model Misspecification, the Equilibrium Natural Interest Rate, and the Equity Premium

This paper analyzes the natural rate of interest and the equity premium in a nonlinear model where agents are uncertain over both future technology growth and the future course of monetary policy. I show that model uncertainty, and notably uncertainty on the future course of monetary policy, can give rise to a sizable precautionary savings motive. This result is potentially problematic for both the estimation of the natural rate and its use as a policy indicator. Monetary uncertainty can also contribute to amplify the equity premium, and to account for its apparent, positive link with inflation.     

EMU and European government bond market integration

In this study we adopt the CAPM-based model of Bekaert and Harvey (1995) to compare the differences in the relative importance of two sources of systemic risk (world and Eurozone) on Government bond returns, in two groups of countries in EU-15. Results show that euro markets are less vulnerable to the influence of world risk factors, and more vulnerable to EMU risk factors. However, they are only partially integrated. For their part, the markets of the countries that decided to stay out of the Monetary Union present a higher vulnerability to external risk factors.