FORECASTING VOLATILITY FOR PORTFOLIO SELECTION

The volatility of an asset is a primary input to the portfolio selection problem. Information about volatility is available from two sources, namely the share market and the option market. This paper examines the forecasting performance, over a three month investment horizon, of time series forecasts (from the share market) and option based implied volatilities. Three time series models, including GARCH, are used and twenty four implied volatility estimation models are employed. Using a data set of twelve UK companies, it is demonstrated that implied volatilities produce better individual forecasts than time series. However, more remarkably, forecasts combining implied volatilies and time series estimates significantly outperform both component forecasts.     

A PROGRAMMING MODEL FOR BANK HEDGING DECISIONS

This study constructs, solves, and interprets a normative model that focuses on the risk management needs of a banking institution. The optimization model is a prototype, and it explicitly incorporates uncertainty via the two-stage linear programming format. Both the traditional asset-liability management and the newer hedging risk management strategies are included. The model suggests that although the specific risk management strategy mix depends on the economic scenario, hedging should be actively considered as a workable strategy.     

TESTING HEDGE EFFECTIVENESS FOR FAS 133: THE VOLATILITY REDUCTION MEASURE

Although the authors of this article praise the spirit of the new FASB guidelines for hedge accounting, they find flaws in the recommended tests for determining if a hedge qualifies for such treatment. In some cases, the tests recommended by the FASB pass hedges that clearly should fail, and in others they fail hedges that should be accepted. In place of the recommended testing procedures, the authors propose the use of the volatility reduction measure (VRM)—a measure that is fully compliant with the spirit of the FASB's recommendations, while correcting their major shortfalls.
While the illustrations in this article are from the realm of fixed income, the VRM approach is applicable to any hedge, whether designated as "fair value" or "cash flow." Moreover, by expressing volatility in the units of the widely used "Value at Risk" measure, VRM establishes a natural link between accounting and risk management.     

INTEREST RATE RISK HEDGING FOR DUE-ON-SALE MORTGAGES WITH EARLY TERMINATION

The impact of random early termination on the interest rate elasticity and the related implications of hedging a mortgage security are examined. The common approach to computing duration using average mortgage life is shown to be biased and insufficient. Because the prepayment distributions of mortgages tend to have wide dispersions, substantial errors result from using average mortgage life. These results are also applicable to other financial obligations subject to prepayment.     

STRATEGIC HEDGING

This article presents a new approach to financial risk management whose primary objective is to ensure that companies have sufficient internal funds and access to outside capital to carry out their strategic investments. The foundation of this approach is a comprehensive measure of corporate exposure that views the firm as a collection of current cashgenerating assets and future investment opportunities and that attempts to show how changes in fundamental economic variables can threaten the firm's ability to realize its strategic objectives. As such, the measure of exposure reflects the effect of expected changes in economic variables not only on the firm's operating cash flows but also on its future investment requirements.
Because its focuses only on the exposures that need protection when regular sources of funds are exhausted, this strategic hedging approach will generally lead to a more conservative hedging policy. In so doing, it should enable companies to avoid the excessive and costly micro hedging of individual transactions—an approach that can easily degenerate into speculation.     

STOCK PRICES AND EXCESSIVE VOLATILITY: SOME EVIDENCE FOR THE FT ORDINARY SHARE INDEX

In this paper the efficiency of the UK stock market is examined using the FT Ordinary share price and dividend indices for the period January 1947 to June 1987. In particular, we examine the validity of the present value model of stock prices using a vector error correction model (VECM). Amongst the findings reported in the paper are that stock prices and dividends are cointegrated and the cross-equation restrictions imposed on the VECM are strongly rejected.     

HEDGING PERFORMANCE AND HEDGING OBJECTIVES: TESTS OF NEW PERFORMANCE MEASURES IN THE FOREIGN CURRENCY MARKET

Two related approaches are introduced for measuring the performance of hedging strategies. The first summarizes the risk-return trade-off as a single annotated numerical value, and the second displays it as a performance curve. Two bounded sets of hedging strategies are used to evaluate empirically the performance measures. One set is divided according to whether it best satisfies short or long hedging objectives. Results show that market conditions often provide opportunities to reduce variance and increase expected return. They also suggest that the Commodity Futures Trading Commission's typical definition of “bona fide” hedging should be reconsidered.     

THE ENERGY MLP GOES INSTITUTIONAL: IMPLICATIONS FOR STRATEGY AND GOVERNANCE

Master limited partnerships (MLPs) were popular in the 1980s because of the favorable tax treatment of their cash distributions. But since the Revenue Act of 1987, which imited the lines of business and income sources for which this tax treatment was available, virtually all remaining public MLPs have been in natural resource businesses.
Institutional investors have traditionally avoided investing in master limited partnerships because any cash distributions must be treated as unrelated business income, creating an immediate tax liability. But in an innovative underwriting in May 001, Goldman Sachs offered shares in a limited liability company that would pay stock dividends equivalent to the cash distributions on its proportional ownership interest in Kinder Morgan Energy Partners, a pipeline operator. In effect, this structure allows tax-exempt investors (institutions) to own an interest in Kinder Morgan Energy Partners without triggering unrelated business taxable income.
An interesting aspect of this recent development is that while the MLP was originally viewed as a vehicle for slow-growth firms to distribute cash and wind down operations, the "institutional" MLP could be used to facilitate growth by attracting needed investment to businesses currently housed in MLP form—typically energy transportation and storage infrastructure businesses (so-called "mid-stream" energy assets). The new structure raises some potential corporate governance challenges in that it is highly complex and offers investors only limited control rights. But the authors' conclusion is that the institutional MLP is likely to be a successful financing innovation whose tax-favored status and extensive public disclosure will outweigh any governance concerns.     

FORECASTING STOCK INDEX VOLATILITY: COMPARING IMPLIED VOLATILITY AND THE INTRADAY HIGH–LOW PRICE RANGE

The intraday high–low price range offers volatility forecasts similarly efficient to high‐quality implied volatility indexes published by the Chicago Board Options Exchange (CBOE) for four stock market indexes: S&P 500, S&P 100, NASDAQ 100, and Dow Jones Industrials. Examination of in‐sample and out‐of‐sample volatility forecasts reveals that neither implied volatility nor intraday high–low range volatility consistently outperforms the other.     

GOVERNMENTAL ACCOUNTING IN NORWAY: A DISCUSSION WITH IMPLICATIONS FOR INTERNATIONAL DEVELOPMENT

Accrual accounting is now being introduced in governmental organizations internationally. Some scholars have, however, questioned this development, implying that other accounting theories, like cameral accounting, should also be considered for use in these organizations. Since Norway is a country, which has not introduced accrual accounting in the governmental sector, the purpose of this paper is to study the evolution of governmental accounting in this country. Based on the Norwegian experiences, the paper aims to present some conclusions for the further international development of governmental accounting.