Mexico's integration into the North American capital market

We explore a model of time varying regional market integration that includes three factors for the North American equity market, the local Mexican equity market and the peso/dollar exchange rate. We argue that a useful instrument for the degree of integration is the sovereign yield spread. Applying our methodology to Mexico over the 1991–2002 period, we show that the degree of market integration was higher at the end of the period than at the beginning but that it exhibited wide swings that were related to both global as well as local events. We also discover that Mexico's currency risk is priced. Further, the currency returns process reveals strongly significant asymmetric volatility that is strongly related to the asymmetric volatility of the Mexican equity market returns process. A plausible reason for these results is that currency devaluations in emerging markets like Mexico can cause default-risk crises in local banking systems that mismatch local-currency assets and hard currency liabilities, whereas appreciations produce no such problems. Devaluations that destabilize banking systems are, therefore, more likely than appreciations to increase the volatilities of both the currency's and the equity market's returns.     

REAL CONVERGENCE AND PRICE LEVELS: LONG‐TERM TENDENCIES VERSUS SHORT‐TERM PERFORMANCE IN THE ENLARGED EUROPEAN UNION

A cross‐country regression relating the relative price level to the relative GDP level is statistically significant and stable over time. Price and GDP levels for EU member countries tend to gravitate to that line. The conclusion that there is a shorter‐term trade‐off between fast real convergence and low inflation is unwarranted. Higher inflation is not a necessary companion of fast convergence. Giving up national currency, or pegging it to the euro, may prevent real convergence or precipitate divergence. A weak initial price level may be insufficient. While retaining national currency is not risk‐free, it allows a corrective devaluation.     

The impact of U.S. devaluations on the stock prices of multinational corporations

In recent years, multinational corporations (MNCs) have faced several currency realignments including the U.S. dollar devaluations, and the revaluations of the Japanese yen and German mark. These adjustments precipitate defensive measures such as hedging by MNCs. While the strategies and tactics of such firms in adapting to currency realignments have received increasing attention in the literature [4,5,6,7,8], the question of how the stock prices of MNCs react largely has been ignored. This question is important both from the investors' viewpoint of investment timing and from the viewpoint of MNCs' managers relative to their abilities to use outside financing before and after realignment, as well as to the proper timing of such financing.This article investigates the behavior of stock prices of multinational corporations during two U.S. devaluations. Also, a model is presented which isolates the international component of the MNC's stock prices from its domestic component.     

Contractionary effects of devaluation

A simple model is developed to illustrate a number of contractionary effects of currency devaluation, some of which have been noted previously. In a Keynesian model, it is shown that depreciation can lead to a reduction in national output if (i) imports initially exceed exports: (ii) there are differences in consumption propensities from profits and wages; (iii) government revenues are increased by devaluation, e.g. when there are significant export taxes. Similar effects are also shown to exist in monetarist models, via reductions in both real balances and the nominal money supply. A numerical example illustrates the results for an economy ‘typical’ of semi-industrialized countries.     

Devaluation,Innovation, and Prices

We investigate the effects of exchange rate changes on innovation by a multinational corporation. The firm enjoys a monopoly in the home market but engages in Cournot competition with a domestic firm in the foreign market. Changes in currency values affect the multinational firm’s profits in domestic currency units, and thus influence the optimal level of process innovation as well as output and prices in the two markets. We find that a devaluation of the home currency will lead the home firm to increase its output in both the home and foreign markets, and increase its spending on R&D. We also find that currency devaluation in the home market leads to lower prices in both markets.     

The Aftermath of a Currency Collapse: How Different are Emerging Markets?

In currency crises, unlike in orderly devaluations, the financial markets dominate events. Previous research has shown that the output effects of a crisis tend to be worse in emerging markets, and the current account adjustment greater. This paper examines the evolution of a wider range of macroeconomic variables from two years before a currency collapse to two years afterwards. On the basis of twelve recent episodes, it is shown that currency collapses (crises followed by depreciations) have had a much greater adverse impact in emerging markets (defined as relatively high‐income developing countries exposed to international capital markets) than in developed countries. There is greater nominal and real depreciation, a substantial inflation shock, a much bigger output effect, and far greater import compression, whilst inflows of portfolio capital virtually cease. These differences are statistically significant. Nevertheless there is wide variation n the post‐collapse experience of the six emerging markets studied (Mexico, Thailand, Korea, Indonesia, Russia and Brazil). Although all six experienced a sudden stop or even a reversal of capital flows and very sharp nominal depreciations, inflation remained low in Thailand, Korea and Brazil, and output losses were comparatively small in Russia and Brazil. Previous studies of individual crises suggest that important factors are the state of the banking system and its vulnerability to currency movements, the ability of the authorities to establish a credible macroeconomic policy after the collapse, and whether the crisis triggers significant political instability.     

Debt composition and balance sheet effects of exchange rate depreciations: a firm-level analysis for Chile

By studying the behavior of foreign currency borrowing, maturity, sales and the investment decisions of firms listed in the Chilean Stock Exchange from 1994 to 2001, this paper assesses whether in the aftermath of the Asian crisis of the late 1990s the depreciation of the local currency (Chilean peso) affected these firms’ real and financial decisions. At issue is the contrast between a negative net-worth effect and a potential expansionary competitiveness effect for the tradable sector. We find that there exists little evidence that devaluations cause a positive impact on investment and sales for firms with dollar denominated debt. The maturity structure of Chilean firms is mainly explained by the size of the companies. Large firms will have a debt structure biased to higher maturities. Analyzing dollar denominated debt composition the evidence shows that larger firms maintained a higher proportion of dollar denominated debt reflecting the development of the financial sector in Chile.     

Dynamics of currency crises with asset market frictions

This paper presents a dynamic model of currency crises with frictions. By construction, a speculative attack is not an instantaneous event but takes a little time to deplete the country's reserves and, in the event of an attack, agents are uncertain about whether they will be able to act before the devaluation comes. The currency will be overvalued (‘ripe for attack’) for a long time before an attack takes place. A discrete and sizable devaluation will occur. Small changes in fundamentals may trigger an attack. The model brings insights about the dynamics of currency crises and the effects of some key policy variables.     

The anatomy of financial crises: Evidence from the emerging ADR market

We study the anatomy of recent financial crises in Mexico, East Asia, Russia, Brazil, Turkey, and Argentina by investigating the efficiency and pricing of the emerging American depositary receipt (ADR) market. We use a non-parametric technique to test for persistent regime shifts in two basic structural relationships for ADR returns in 20 emerging countries — identified via arbitrage and capital mobility considerations — that should always hold in efficient and integrated capital markets. We find that those “normal” market conditions were instead often violated in proximity of financial crises: The law of one price often weakened (by 54% on average) and domestic sources of risk became more important (often by more than 100%) for many emerging ADRs. We also find the likelihood of these regime shifts to be related to proxies for uncertainty among investors, exchange rate volatility, trade linkages, and liquidity (but not stock market trends, currency devaluations, capital flight, or capital controls).     

Emerging Equity Market Volatility

Abstract

This paper considers two emerging markets that are under-researched, Kenya and Nigeria. It offers a comprehensive view of four time properties that emerged from the empirical time series literature on asset returns: (1) the predictability of returns from past observations; (2) the auto-regressive behavior of conditional volatility; (3) the asymmetric response of conditional volatility to innovations; and (4) the conditional variance risk premium. Results of the exponential GARCH (EGARCH) model indicate that asymmetric volatility found in the U.S. and other developed markets also characterized the Nigerian stock exchange. In Kenya, however, the asymmetric volatility coefficient is significant and positive, suggesting that positive shocks increase volatility more than negative shocks of an equal magnitude. The Nairobi Stock Exchange (KSE) returns series report negative but insignificant risk-premium parameters. In Nigeria (NSE), return series exhibit a significant and positive time-varying risk premium. The results also show that expected returns are predictable, that the auto-regressive return parameters (? ₁ ) are significant in both Kenya and Nigeria. Finally, the GARCH parameter (b) is statistically significant, indicating that volatility persistence is present in the two emerging markets studied.     

Debt composition and balance sheet effects of exchange rate volatility in Mexico: a firm level analysis

We use Mexican firm-level data to study the role of currency mismatches in the corporate sector in exacerbating the negative effects of a devaluation. We also investigate what drives Mexican firms to borrow in foreign currency. We find that holding dollar denominated debt in a devaluation adversely affects firms’ earnings and investment. However, exporters invested more than non-exporters in the same period. We also find that the negative effect of dollar debt was stronger than the positive effect of exports in the 1994 crisis for firms with positive dollar debt and/or exports, relative to firms that did not borrow abroad and/or export. This was a result of imperfect currency matching by firms. However, in the 1998 crisis firms managed the denominations of their inflows and outflows much better and these two effects were roughly equal in magnitude. We also find some evidence of currency matching by exporters, especially after the introduction of the floating exchange rate.     

Domestic mergers and acquisitions in BRICS countries: Acquirers and targets

We study the firm value determinants for domestic acquisitions within BRICS countries considering both acquirer and target shareholders. Targets earn significant positive announcement returns of 1.45% on average. Acquirers lose slightly. We employ a comprehensive set of explanatory variables and test for cross-sectional return drivers. Target returns are negatively related to pre-announcement returns and firm size, while they are positively related to GDP growth. Our results are consistent with insider trading capturing some of the target excess returns, which are highest for small targets based in countries with high recent GPD growth.     

Risk–return relationships in foreign‐currency futures following macroeconomic announcements

This study uses the tick data for foreign‐currency futures to examine risk–return relationships on macroeconomic announcements. This study—different from previous studies—examines the risk–return relationship by capturing the announcement effect on returns with announcement surprises and on volatilities with announcement dummies simultaneously in a Generalized Autoregressive Conditional Heteroskedasticity (GARCH) model. Strong risk–return relationships are detected for the first min after the announcements. Furthermore, the return–risk tradeoff ratios differ across currencies and across macroeconomic indicators. The same information can be more profitable when acted on the more liquid currency futures. © 2002 Wiley Periodicals, Inc. Jrl Fut Mark 22: 729–764, 2002     

Can skewness of the futures-spot basis predict currency spot returns?

This paper examines the relationship between skewness of the futures-spot basis and expected currency spot returns. The empirical results show that the expected spot returns are negatively correlated with the basis skewness. We find that the basis skewness exhibits statistically significant in-sample and out-of-sample forecasting power. Furthermore, the basis skewness beat the random walk (without drift) in economic measures. The impacts of the basis skewness on spot returns barely vary with time and have no structural breaks. We also find that the basis skewness can really improve the predictability of spot returns, even when the futures-spot basis is considered.     

From carry trades to curvy trades

Traditional carry trade strategies are based on differences in short-term interest rates, neglecting any other information embedded in yield curves. We derive return distributions of currency portfolios, where the signals to buy and sell currencies are based on summary measures of the yield curve. We find that a strategy based on the relative curvature factor, the curvy trade, yields higher Sharpe ratios and a smaller return skewness than traditional carry strategies. Curvy trades build less upon the typical carry currencies and are hence less susceptible to crash risk. In line with that, standard pricing factors of traditional carry returns fail to explain curvy trade returns.     

SRI LANKA'S EXPERIMENT WITH DEVALUATION: VAR and ECM Analysis of the Exchange Rate Effects on Trade Balance and GDP

The objective of this study is to empirically analyze the impact of the devaluation of the Sri Lankan currency (rupee) on Sri Lankan trade balance and gross domestic product. The World Bank and the International Monetary Fund (IMF) have been promoting devaluation as a policy tool for economic growth and stability in LDCs. However, there is substantial research supporting the “J-Curve” effect and contractionary effects on economies due to devaluation, especially for less developed countries (LDCs). The results show a contractionary impact on the Sri Lankan output.     

Debt composition and balance sheet effects of currency depreciation: a summary of the micro evidence

This paper surveys recent empirical evidence on the determinants of the currency composition of debt, and on the impact of exchange rate fluctuations on economic activity. It suggests that Latin American firms tend to partially match the composition of their debt with the currency composition of their income stream but the liability dollarization can reduce or possibly reverse the typical Mundell–Fleming result of expansionary devaluations.     

The Influence of Cognitive Dissonance on Retail Product Returns

Given the significant costs and customer service ramifications associated with the return of retail merchandise it is important to understand the underlying reasons for product returns. One such underlying reason is cognitive dissonance. Customers who experience cognitive dissonance may seek to undo the effects of a regretted choice by returning the product in question. This research examines the influence of two forms of cognitive dissonance (emotional dissonance and product dissonance) on the frequency of product returns. Three antecedents (consideration of liberal return policies, customer opportunism, and switching barriers) are examined in terms of their influence on cognitive dissonance and product returns. In addition, the moderating role of gender and store brand is reported. The research is based on a survey of Wal‐Mart and Target customers who engaged in product returns. Structural equation modeling is used to verify and test these relationships. Emotional dissonance and product dissonance were found to be positively related to product returns frequency. It was found that consideration of liberal return policies reduces both emotional and product dissonance, while customer opportunism and switching barriers increase both dimensions of cognitive dissonance. Both gender and store brand were found to be significant moderators of the relationships between cognitive dissonance and two antecedents (consideration of liberal return policies and customer opportunism). In addition, gender and store brand moderated the linkage between product dissonance and emotional dissonance, and the linkage between emotional dissonance and return frequency.     

Examining the Return–Volatility Relation for Foreign Exchange: Evidence from the Euro VIX

We compare the return–volatility relation for the euro currency to the equivalent relation for the equity market, examining the sign, symmetry, and strength of the relation. We employ the euro‐currency exchange‐traded fund (FXE) and its associated option implied volatility index (the EVZ), whereas previous studies only employ equities and/or realized volatility. The equity studies find a negative asymmetric return–volatility relation for implied volatility, with a strong relation when large market movements occur. We find that the euro return–volatility relation can possess either a positive or negative sign, is asymmetric, and has a weaker relation. Thus, the sign and strength of the euro relation differs from the equivalent equity relation. Our quantile regressions show that both the positive and negative contemporaneous returns of the euro result in increased volatility in the extreme quantiles of the conditional distribution, with the contemporaneous effect showing a stronger relation when the euro depreciates. We also find that the volume of the euro‐currency ETF options affects the return–volatility relation for the euro ETF. Overall, the results here expand the concept originally restricted to equities, with the surprising results that the return‐implied volatility relation is weaker and the asymmetric return sometimes is positive for the euro currency. © 2012 Wiley Periodicals, Inc. Jrl Fut Mark 34:74–92, 2014     

Further evidence on Asian stock return behavior

This paper examines the relationship between expected stock returns and size, and market-to-book ratio in five Asian emerging markets: India, Korea, Malaysia, Taiwan and Thailand. Overall, we find a strong size effect in all markets and a significant market-to-book effect in Korea, Malaysia and Thailand. When the tests allow for both variables, the negative relationship between size and average return is less robust; the inclusion of market-to-book equity seems to absorb the role of size in Asian stock returns. Our finding for the Asian market applies to the post-1984 period, thus questioning the assertion of Black [J. Portfolio Manage. 20 (1993) 8] and MacKinlay (1995) that “the value premium is sample-specific”. Although small firms have—to a certain extent—higher average returns than large firms in Asian markets, the market-to-book variable seems to have a consistently stronger role in average returns and would suggest that value stocks have higher average returns than growth stocks. Thus, the higher average return on value stocks in the Asian emerging markets can be considered as a local manifestation of a global phenomenon.