Cross-border trading as a mechanism for implicit capital flight: ADRs and the Argentine crisis

Cross-listed shares may confound government efforts to control capital outflows by providing a legal means through which investors can transfer their wealth outside the country. We study the recent experience of investors who while subject to capital controls, were able to purchase cross-listed shares using local currency, convert them into dollar-denominated shares, re-sell them abroad, and deposit the dollar proceeds in foreign bank accounts. Capital controls drive a wedge between the price of local shares and their corresponding cross-listed shares. This wedge provides an implicit devaluation forecast and the market's valuation of capital control circumvention.     

Foreign institutional ownership and stock market liquidity: Evidence from Indonesia

From January 2002 to August 2007, foreign institutions held almost 70% of the free-float value of the Indonesian equity market, or 41% of the total market capitalization. Over the same period, liquidity on the Jakarta Stock Exchange improved substantially with the average bid–ask spread more than halved and the average depth more than doubled. In this study we examine the Granger causality between foreign institutional ownership and liquidity, while controlling for persistence in foreign ownership and liquidity measures. We find that foreign holdings have a negative impact on future liquidity: a 10% increase in foreign institutional ownership in the current month is associated with approximately 2% increase in the bid–ask spread, 3% decrease in depth, and 4% rise in price sensitivity in the next month, challenging the view that foreign institutions enhance liquidity in small emerging markets. Our findings are consistent with the negative liquidity impact of institutional investor ownership in developed markets.     

Sovereign to Corporate Risk Spillovers

The first Greek bailout on April 11, 2010 triggered a significant reevaluation of sovereign credit risk across Europe. We exploit this event to examine the transmission of sovereign to corporate credit risk. A 10% increase in sovereign credit risk raises corporate credit risk on average by 1.1% after the bailout. The evidence is suggestive of risk spillovers from sovereign to corporate credit risk through a financial and a fiscal channel, as the effects are more pronounced for firms that are bank or government dependent. We find no support for indirect risk transmission through a deterioration of macroeconomic fundamentals.     

Halloween or January? Yet another puzzle

Recent works suggest a potentially exploitable effect in US markets, the ‘Halloween Indicator’. This suggests that the greater part of changes in equity markets arises over the November-April period, with little change over the summer months, simultaneous with no evident changes in the risk profiles of the two six-month periods. We re-examine this and find contradictory evidence. Over the 1926-2002 period we find rather that the effect demonstrated may well be a reflection of the well-known January anomaly. Our conclusion therefore is that the jury remains out on the existence of a semi-annual seasonality.     

Heterogeneity of the determinants of euro-area sovereign bond spreads; what does it tell us about financial stability?

In this paper, we assess the movements of euro area sovereign bond yield spreads vis-à-vis the German Bund as processes specified across different levels of volatility and subject to movements in asset prices and economic conditions. The determinants we use are grouped into domestic and euro-area aggregates, thus allowing us to derive results on their relative explanatory power and compare them across time and the spectrum of countries. We find that volatility influences the deterministic processes of the euro area sovereign spreads and that identical determinants have effects on spreads that vary considerably across countries. Furthermore, we find that variables reflecting investment confidence conditions and perceptions for the upcoming economic activity are significant determinants and their significance remains, to a large extent, even when controlling for fiscal variables.     

How Much of Bank Credit Risk Is Sovereign Risk? Evidence from Europe

We examine European banks' exposures to systematic and country‐specific sovereign risk. We organize our investigation around a multifactor affine credit risk model estimated on credit default swap data of different maturities. During the 2008–15 period, about one third of banks' credit risk is sovereign. However, banks strongly differ both in the magnitude and type of their sovereign exposures. Measures of indirect exposures, such as bank size and return on equity, capture these cross‐sectional differences better than measures of direct exposures. Furthermore, the properties of the distress risk premiums turn out to be important to understand the effect of sovereign risk on bank funding costs.     

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 world price of liquidity risk

This paper empirically tests the liquidity-adjusted capital asset pricing model of Acharya and Pedersen (2005) on a global level. Consistent with the model, I find evidence that liquidity risks are priced independently of market risk in international financial markets. That is, a security’s required rate of return depends on the covariance of its own liquidity with aggregate local market liquidity, as well as the covariance of its own liquidity with local and global market returns. I also show that the US market is an important driving force of global liquidity risk. Furthermore, I find that the pricing of liquidity risk varies across countries according to geographic, economic, and political environments. The findings show that the systematic dimension of liquidity provides implications for international portfolio diversification.     

Systemic Risk,Financial Crisis,and Credit Risk Insurance

Differing from conventional insurance firms whose underwriting business does not contribute to systemic risk, credit risk insurance companies providing credit protections for debt obligations are exposed to systemic risk. We show that credit risk insurers (CRIs) underperformed conventional insurance companies during the 2007–2009 financial crisis, and such underperformance is attributed to the greater systemic risk of CRIs. We also find that the credit spreads of insured bonds increase significantly after their insurers are downgraded or put in the negative watch list. We control for alternative factors affecting bond credit spreads and the result is robust.     

Multimarket trading and corporate bond liquidity

Global bonds are international securities traded and settled efficiently in multiple markets. This paper examines global bonds to evaluate the effects of multimarket trading on corporate bond liquidity and pricing. The results show that global bonds are significantly more liquid than similar-sized domestic bonds of the same issuers, and their liquidity advantage is reflected in higher market valuations. These findings support microstructure models that predict a positive relation between the number of potential investors and liquidity in over-the-counter markets, and help explain the increasing use of global bonds by corporate issuers.     

Financial integration and emerging markets capital structure

This paper investigates the impact of country-level financial integration on corporate financing choices in emerging economies. Examining 4477 public firms from 24 countries, we find that corporate leverage is positively related to credit market integration and negatively related to equity market integration. As integration proceeds to higher levels, high-growth firms seem to obtain more debt than low-growth firms; large firms seem to obtain more debt - especially long-term debt - and issue more equity than small firms. Also, there is evidence that firms are able to borrow more funds in countries with more efficient legal systems during integration process.     

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.     

No contagion,only globalization and flight to quality

In this article, tests for globalization and contagion are separated using an ex ante definition of crises, and contagion tests are neutralized with respect to globalization effects. A large database is constructed to study the stability of correlation matrices for four asset classes: equities, government bonds, investment grade corporate bonds, and high-yield corporate bonds, in four geographical zones. Overall, the results confirm the instability of correlations and point to a combination of globalization and flight to quality, while emphasizing that contagion on the equity markets appears as an artifact due to globalization.     

Global market integration: An alternative measure and its application

Global markets seem to be increasingly integrated but there is no well-accepted measure of integration. We show that the correlation across markets is a poor measure; perfectly integrated markets can exhibit weak correlation. We derive a new integration measure based on the explanatory power of a multi-factor model and use it empirically to investigate recent trends in global integration. For most countries, there has been a marked increase in measured integration over the past three decades, but this is not indicated by correlations among country indexes.     

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.     

Are Expected Inflation Rates and Expected Real Rates Negatively Correlated? A Long‐Run Test of the Mundell‐Tobin Hypothesis

Some empirical evidence suggests that the expected real interest and expected inflation rates are negatively correlated. This hypothesis of negative correlation is sometimes known as the Mundell‐Tobin hypothesis. In this article we reinvestigate this negative relation from a long‐term point of view using cointegration analysis. The data on the historical interest rate on T‐bills and the inflation rate indicate that the Mundell‐Tobin hypothesis does not hold in the long run for the United States, the United Kingdom, and Canada. We also obtain similar results using the real interest rate on index‐linked gilt traded in the United Kingdom.     

Global private information in international equity markets

This paper studies international equity markets when some investors have private information that is valuable for trading in many countries simultaneously. We use a dynamic model of equity trading to show that global private information helps explain US investors’ trading behavior and performance. In particular, the model predicts global return chasing (positive co-movement of US investors’ net purchases with returns in many countries) which we show to be present in the data. Return chasing in our model can be due to superior performance of US investors, not inferior knowledge or naive trend-following. We also show that trades due to private information are strongly correlated across countries. A common (global) factor accounts for about half their variation.     

Have European Stocks become More Volatile? An Empirical Investigation of Idiosyncratic and Market Risk in the Euro Area

We examine the dynamics of idiosyncratic risk, market risk and return correlations in European equity markets using weekly observations from 3515 stocks listed in the 12 euro area stock markets over the period 1974–2004. Similarly to Campbell et al. (2001) , we find a rise in idiosyncratic volatility, implying that it now takes more stocks to diversify away idiosyncratic risk. Contrary to the US, however, market risk is trended upwards in Europe and correlations are not trended downwards. Both the volatility and correlation measures are pro‐cyclical, and they rise during times of low market returns. Market and average idiosyncratic volatility jointly predict market wide returns, and the latter impact upon both market and idiosyncratic volatility. This has asset pricing and risk management implications.     

Extreme coexceedances in new EU member states’ stock markets

We analyze the financial integration of the new European Union (EU) member states’ stock markets using the negative (positive) coexceedance variable that counts the number of large negative (large positive) returns on a given day across the countries. A similar analysis is performed for the old EU countries. We use a multinomial logit model to investigate how persistence, asset classes, and volatility are related to the coexceedance variables. We find that the effects differ (a) between negative and positive coexceedance variables (b) between old and new EU member states, and (c) before and after the EU enlargement in 2004, suggesting a closer connection of new EU stock markets to those in Western Europe.     

Time-varying integration,interdependence and contagion

Bekaert et al. (2005) define contagion as “correlation over and above what one would expect from economic fundamentals”. Based on a two-factor asset pricing specification to model fundamentally-driven linkages between markets, they define contagion as correlation among the model residuals, and develop a corresponding test procedure. In this paper, we investigate to what extent conclusions from this contagion test depend upon the specification of the time-varying factor exposures. We develop a two-factor model with global and regional market shocks as factors. We make the global and regional market exposures conditional upon both a latent regime variable and three structural instruments, and find that, for a set of 14 European countries, this model outperforms more restricted versions. The structurally-driven increase in global (regional) market exposures and correlations suggest that market integration has increased substantially over the last three decades. Using our optimal model, we do not find evidence that further integration has come at the cost of contagion. We do find evidence for contagion, however, when more restricted versions of the factor specifications are used. We conclude that the specification of the global and regional market exposures is an important issue in any test for contagion.