Foreign equity flows and the “Size Bias”: Evidence from an emerging stock market

This paper examines foreign investors' equity-level transactions in an emerging stock market, the Istanbul Stock Exchange, for the period 1997–2008 to derive insights into the debate on information asymmetries between domestic and foreign investors and the home bias puzzle. The analysis suggests two important findings. First, foreign investors do not consider the market portfolio of domestic securities as predicted by standard theories of international portfolio diversification. Second, the firm's size and the expected return are central to explain foreign investors' equity trades. The results are consistent with models based upon the hypothesis of differential information between foreign and domestic investors.     

Financial integration and currency risk premium in CEECs: Evidence from the ICAPM

This paper aims to study the Central and Eastern European Countries' (CEECs) dynamics of financial integration in the euro area with the prospect of their integration into the European Monetary Union. Our empirical analysis is based, successively, on a MGARCH model with time-varying correlations, a state-space model and a Markov-switching model. The results show that financial integration (i) is not perfect but is increasing and (ii) is linked to currency stability. The growing financial integration in 2007–2009 seems to be rather the result of the shock propagated by the global crisis.     

Currency crises with the threat of an interest rate defence

While virtually all currency crisis models recognise that the decision to abandon a peg depends on how tenaciously policy makers defend it, this is seldom modelled explicitly. We add the threat of an interest rate defence to the global game model of Morris and Shin (American Economic Review 88, 1998). With an endogenous defence, actions of speculators may become strategic substitutes instead of the usual complements. Nevertheless, our generalised model remains tractable and has a unique threshold equilibrium. It provides additional insights. For instance, the threat of an interest rate defence makes speculation riskier and this may be sufficient to keep speculators out when fundamentals are still relatively strong.     

Stock market correlations between China and its emerging market neighbors

We examine interlinkages of stock return behavior for China and three emerging market neighbors from the Asia Pacific region from November 1993 to July 2008. Results are based on a VAR model. Impulse responses and vector decomposition of VAR are also utilized. Evidence suggests that the aggregate markets are mostly not interrelated. However, we observe relations between China and the other markets when foreign investor returns are specifically accounted for. In addition, a shock originating in China is significantly felt in the other equity markets. Stock market characteristics and macroeconomic conditions of these countries may help explain the observed relations.     

CEO incentives and bank risk

We investigate the relationship between CEO compensation and bank default risk predictors to determine if short-term incentives can explain recent excesses in bank risk. We investigate early warning off-site surveillance parameters and expected default frequency (EDF) as well as crisis-related risky bank activities. We find only modest evidence that CEO compensation structures promote significant firm-specific heterogeneity in bank risk measures or risky activities. Compensation elements commonly thought to be the riskiest components, unvested options and bonuses, are either insignificant or negatively correlated with common risk variables, and only positively significant in predicting the level of trading assets and securitization income.     

Bank monitoring, profit efficiency and the commercial lending business model

We build a bank-specific, fixed-effects regression model to develop proxies for a bank's monitoring effort. Our results show that banks that devote more resources to monitoring (based on these proxies) are more profit efficient and the effect is large. A very important theoretical literature in finance suggests that monitoring is value enhancing; we provide empirical evidence consistent with the theory. This research thus establishes an important link between the large literature on bank monitoring and the equally large literature on profit efficiency. Monitoring is a key technology in the commercial lending business model (e.g. Mester, Nakamura, & Renault, 2007). Thus, these results point to considerable strengths in the dominant business model used in the banking industry.     

Investor base and corporate borrowing: Evidence from international bonds

We examine international bond issues by US firms to study the benefits of investor taste for cross-border security issuances. We proxy for firms' international investor taste with the fraction of prior international bond holding in firms' domestic and international bonds and find that international investor demand increases with such taste. Moreover, the offering yield spreads on international bonds are lower than domestic offering yield spreads for these internationally recognized firms and they have higher probability of issuing internationally. Such international recognition may occur, for instance, if the diversification benefits of adding the security to investor's portfolio outweigh the negative effects of higher renegotiation costs for international compared to domestic investors.     

Regional financial integration in the GCC

We investigate the extent of regional financial integration in the member countries of the Gulf Cooperation Council. Interest rate data show that convergence exists and that interest rate differentials are relatively short-lived—especially relative to other unified currency area and comparable to those of the Euro Area post 1999. Equity data using cross-listed stocks confirm that stock markets are fairly integrated compared to other emerging market regions, although price equalization is hampered by market illiquidity. The limited volume data available suggests that intra-GCC capital flows are sizeable.     

Theory and practice of corporate finance: Evidence and distinctive features in Latin America

We survey 290 LATAM firms on capital budgeting, cost of capital and capital structure issues. We analyze the results and compare them to those of other studies. We interpret differences according to special features characterizing both emerging markets and SME. We observe that LATAM firms make use of standard capital budgeting techniques, but give special weight to liquidity and capital rationing considerations. They rely less on cost of capital formal estimations; rather, they use investors' requests as their primordial input. Finally, surveyed firms are less leveraged, and inclined toward stressing the role of internal financing and minimizing payment commitments.     

Treasury Bond risk and return, the implications for the hedging of consumption and lessons for asset pricing

All consumption-based models of asset pricing imply that the relation between the conditional mean and conditional volatility of any asset reflects the effectiveness of holding that asset as a hedge against intertemporal variation in the marginal utility of consumption. For Treasury Bonds of various maturities, we find significant positive relations. Our empirical findings support the conclusion that investors must sell bonds short to hedge shocks to marginal utility, because realized bond returns tend to be high (low) when investors least (most) desire an additional dollar of consumption. Implications for special cases of the general consumption-based model are also discussed.     

Valuation effects with transitory and trend productivity shocks

Changes in asset prices of a country's foreign assets and liabilities (“valuation effects”) are commonly thought of as stabilizing: they counteract current account movements and mitigate the impact of the current account on the country's net foreign asset (NFA) position. This paper shows that whether valuation effects are stabilizing or not depends critically on the nature of the underlying productivity shocks. In response to transitory shocks, valuation effects are stabilizing; but in response to trend shocks, such effects amplify the impact of the current account on NFA position. These contrasting effects arise because optimally smoothing consumers respond differently to a transitory shock than to a trend shock to income. This theoretical result finds empirical support with G7 countries' data, and is illustrated by the pattern of external imbalances between the U.S. and other G7 countries since the 1990s.     

Does corporate governance risk at home affect investment choices abroad?

Disparity between control and ownership rights gives rise to the risk of tunneling by the controlling shareholder, and is prevalent in many emerging market economies and present in some developed countries. At the same time, international investors come from different countries whose home markets are characterized by varying degrees of control–ownership disparity. This paper studies whether this difference in investors' home countries affects their portfolio choice in an emerging market. It combines two unique data sets on ownership and control in business groups, and investor-stock level foreign investment in Korea. A key finding is that investors from low-disparity countries disfavor high-disparity stocks in Korea, but investors from high-disparity countries are indifferent. Moreover, investors from low-disparity countries became averse to disparity only after the Asian financial crisis. These results suggest that the nature of corporate governance in international investors' home countries affects their portfolio choice abroad, and therefore these investors should not be lumped together in the analyses of their portfolio choice.     

Geographical focus in emerging markets and hedge fund performance

Emerging market hedge funds are an asset class which does not seem to outperform the market benchmarks. We hypothesize that the poor aggregate performance may be due to lack of focus of these funds. Our results suggest that a portfolio of emerging market hedge funds, which have geographical focuses, outperform their underlying stock markets. Hedge funds which focus on Eastern Europe appear to have the best outperformance. However, we also find that the performance of all emerging market hedge funds has reduced after the start of the 2008 Crisis.     

The promoter's role in ticket pricing: Implications of real options for optimal posted prices and rationing

We consider the problem of pricing event tickets for initial sale when demand is uncertain. It is a standard industry practice for a performer to contract with a promoter who underwrites the event and offers the tickets for sale at a posted price that is sticky in that it is either fixed or costly to adjust once sales begin. Promoters, therefore, bear price risk, and we show that bearing the risk associated with posting a sticky offer price amounts to writing a put option on the ticket revenue. Further, we show that optimal posted-offer prices can be expected to result in rationing (surpluses) if price uncertainty and price elasticity of demand are material (immaterial), even when the demand forecast is accurate. Our results have implications for a more general set of pricing problems in which items are offered for sale at sticky posted prices.     

Monetary autonomy in emerging market economies: The role of foreign reserves

This paper examines trends in monetary autonomy and their interactions with financial integration, currency regimes and foreign reserves for recent decades in emerging Asian and Latin American economies. Our main findings are the following: First, most emerging Asian economies have increased monetary autonomy mainly due to changes in currency regimes toward floating regimes, while emerging Latin American economies have shown mixed results on monetary autonomy. Second, in all sample economies, the accumulation of foreign reserves has contributed to retaining monetary autonomy, probably implying the role of foreign reserves as an anchor for monetary autonomy in emerging market economies.     

The role of the stock market in the provision of Islamic development finance: Evidence from Sudan

This paper assesses the impact of stock exchange funding in the Shari'ya compliant Islamic economy of Sudan. Evidence suggests that while Islamic financial instruments have considerable potential in facilitating development finance through their emphasis on partnership this is better achieved by the banking system rather than the Khartoum Stock Exchange. A case study of the Sudan Telecommunications company shows that larger firms able to cross-list elsewhere are likely to choose regional markets in preference to their domestic one thus benefiting from lower costs of equity. However, governance preferences are likely to favour block shareholders following the Islamic finance partnership concept.     

Exchange rate exposure: A nonparametric approach

The typical conclusion reached when researchers examine exchange rate exposure is that only a few firms are exposed. This finding is puzzling since institutional knowledge and theory suggests a larger effect. In this paper, we compare results obtained using a linear approach with those from nonlinear and nonparametric models. Among firms that don't have a linear exposure, we find that a considerable proportion of these are exposed when nonlinear or nonparametric models are used. This exposure is most striking when a nonparametric model is used. We also find that firms' hedging activities decrease linear exposure but don't affect nonparametric exposure.     

Political cycles under external economic constraints: Evidence from Cyprus

This paper examines the presence of political cycles in a small open economy using data from Cyprus over the period 1978–2006, and explores their conditionality upon external economic constraints, such as globalization and European integration. Two basic results emerge. First, we find evidence of partisan shifts in economic policies and outcomes, although these effects seem to decrease as globalization progresses, and to disappear in the run-up to EMU. This implies that, while partisan cycles can emerge under a certain domestic political setting, the sensitivity of an economy to globalization pressures and the challenges resulting from EU/EMU membership can lead to their weakening. Second, we find evidence of electoral shifts in certain, more visible, subcomponents of the fiscal balance. However, in contrast to partisan distinctions, these opportunistic effects become more pronounced as globalization proceeds. It seems that constraints imposed on the ability of politicians to ingratiate themselves with partisans, may actually strengthen their incentives to engage in electioneering.     

Foreign subsidization and excess capacity

The U.S. steel industry has long held that foreign subsidization and excess capacity has led to its long-run demise, yet no one has formally examined this hypothesis. In this paper, we incorporate foreign subsidization considerations into a model based on Staiger and Wolak's (1992) cyclical dumping framework and illustrate testable implications of both cyclical excess capacity and structural excess capacity stemming from foreign subsidization. We then use detailed product- and foreign country-level data on steel exports to the U.S. market to estimate these excess capacity effects. While the full sample results provide evidence of both cyclical and structural excess capacity effects for exports to the U.S. market, these effects are confined to such a narrow range of country–product combinations that it is unlikely that such effects were a significant factor in the fortunes of U.S. steel firms over the past decades.     

Relationship between portfolio diversification and value at risk: Empirical evidence

This research explores the risk associated with the stocks prices in the seventeen selected companies that are listed in Indian BSE (100) National as well as portfolios of investment that are constructed from these seventeen companies employed. Additionally, for considering the possibility of international diversification, construction of portfolios of investment form stock price indexes in various emerging markets and developed countries of the world is considered. Correlations for domestically as well as internationally diversified portfolios are computed to unveil the relationship between stock prices of various firms as well as domestic and internationally diversified portfolios of investments. Further, to understand the effect of diversification on the risk associated with each of the portfolios of investments employed, value at risk analysis (VaR) is undertaken for studying the benefits associated with domestic as well as international diversification (if any).The study results show that domestic diversification lowers the expected losses associated with each of the domestic portfolios of investment employed where the international diversification substantially mitigates the portfolio risks. Results from VaR analysis reveal that diversification lowers the portfolio risks and additional reduction in portfolio risks is realized by international diversification.