A Factor Allocation Approach to Optimal Bond Portfolio

This paper proposes a new method to a bond portfolio problem in a multi-period setting. In particular, we apply a factor allocation approach to constructing the optimal bond portfolio in a class of multi-factor Gaussian yield curve models. In other words, we consider a bond portfolio problem in terms of a factors’ allocation problem. Thus, we can obtain clear interpretation about the relation between the change in the shape of a yield curve and dynamic optimal strategy, which is usually hard to be obtained due to high correlations among individual bonds. We first present a closed form solution of the optimal bond portfolio in a class of the multi-factor Gaussian term structure model. Then, we investigate the effects of various changes in the term structure on the optimal portfolio strategy through series of comparative statics.     

Deferred Taxes and Bond Ratings: A Canadian Case

This paper explores the usefulness of the current Canadian Institute of Chartered Accountants standard on accounting for income taxes in bond rating decisions by credit analysts. Bond rating prediction models using accounting variables generated with alternate treatment of income taxes, have been developed. The analysis indicates that additional information presented by the above standard has not contributed significantly to the bond raters' decision making process.     

Pricing Options under Stochastic Interest Rates: A New Approach

We will generalize the Black-Scholes option pricing formula by incorporating stochastic interest rates. Although the existing literature has obtained some formulae for stock options under stochastic interest rates, the closed-form solutions have been known only under the Gaussian (Merton type) interest rate processes. We will show that an explicit solution, which is an extended Black-Scholes formula under stochastic interest rates in certain asymptotic sense, can be obtained by extending the asymptotic expansion approach when the interest rate volatility is small. This method, called the small-disturbance asymptotics for Itô processes, has recently been developed by Kunitomo and Takahashi (1995, 1998) and Takahashi (1997). We found that the extended Black-Scholes formula is decomposed into the original Black-Scholes formula under the deterministic interest rates and the adjustment term driven by the volatility of interest rates. We will illustrate the numerical accuracy of our new formula by using the Cox–Ingersoll–Ross model for the interest rates.     

A structural decomposition of the U.S. trade balance: Productivity, demographics and fiscal policy

The US external deficits have been the most striking manifestation of global imbalances. This paper investigates the contribution of productivity growth, demographics and fiscal policy in accounting for the evolution of the US external imbalances against industrialized countries during the last three decades. Productivity growth plays a dominant role. Demographics explain a non-negligible and nearly permanent component of the US trade deficit. Furthermore, the international demographic transition is crucial for large US external imbalances to be consistent with the persistent decline of world real interest rates observed in the data. Fiscal policy is of minor importance.