Is backdating executive stock options always costly to shareholders?

We use a binomial model to investigate the cost to shareholders of backdating employee stock option (ESO) grants to award in‐the‐money rather than at‐the‐money options to a manager. When the expected return of the stock underlying an ESO is sufficiently close to the risk‐free rate, a backdating arrangement can always be structured to simultaneously improve shareholders’ wealth and the manager's utility. The smaller the manager's non‐option wealth, personal income tax rate or risk tolerance, the more likely a backdating arrangement can be welfare improving.     

Coefficient of determination in a simultaneous equation model: A pedagogic note

The simultaneity of the market for securities has been recognized by a number of finance authors. Simkowitz and Jones [10] advocate the use of a simultaneous equation system to capture some of the relationships among the securities in a homogeneous set. Simkowitz and Logue [11], and Jones and Simkowitz [6], have performed studies using a simultaneous equation system in a capital asset pricing framework. Marcis and Smith [9] call for the use of the simultaneous methodology when there is a strong residual correlation between securities. Simultaneous equation systems have been used in other areas of finance by authors such as Barnea [1], Herbst [5], and Logue and Lindvall [8]. This note explores how anomalies concerning the coefficient of determination (R²) mentioned in previous research could have occured. Conditions under which the (R²) does not have its usual properties and an example is given.     

BIVARIATE BINOMIAL OPTIONS PRICING WITH GENERALIZED INTEREST RATE PROCESSES

We extend existing pricing models and develop a bivariate binomial option pricing technique that accommodates correlated state variables. This technique offers the ability to price American-style options, thereby accommodating early exercise, despite the existence of two correlated underlying state variables. Our technique is computationally efficient and can be further generalized for multiple-state variables, albeit with an accompanying rise in computational expense.     

International diversification with frontier markets

We provide an analysis of frontier market equities with respect to world market integration and diversification. Principal component results reveal that frontier markets exhibit low levels of integration. In contrast with developed and emerging markets, frontier markets offer no indication of increasing integration through time. Furthermore, individual frontier market countries do not exhibit consistent rates of changing integration. Structural break tests identify breakpoints in integration, as well as integration dynamics across countries. We show that frontier markets have low integration with the world market and thereby offer significant diversification benefits.     

Rewarding improvements: optimal dynamic contracts with subjective evaluation

We study a T‐period contracting problem where performance evaluations are subjective and private. We find that the principal should punish the agent for performing poorly in the future even when the evaluations were good in the past; at the same time, the agent should be given opportunities to make up for poor evaluations in the past with better performance in the future. Optimal incentives are thus asymmetric. Conditional on the same number of good evaluations, an agent whose performance improves over time should be better rewarded than one whose performance deteriorates.     

An Empirical Comparison of Alternative Models of the Short-Term Interest Rate

We estimate and compare a variety of continuous-time models of the short-term riskless rate using the Generalized Method of Moments. We find that the most successful models in capturing the dynamics of the short-term interest rate are those that allow the volatility of interest rate changes to be highly sensitive to the level of the riskless rate. A number of well-known models perform poorly in the comparisons because of their implicit restrictions on term structure volatility. We show that these results have important implications for the use of different term structure models in valuing interest rate contingent claims and in hedging interest rate risk.     

Forecasting Inflation Using Constant Gain Least Squares

This paper assesses the usefulness of constant gain least squares when forecasting inflation. An out‐of‐sample forecast exercise is conducted, in which univariate autoregressive models for inflation in Australia, Sweden, the United Kingdom and the United States are used. The results suggest that it is possible to improve the forecast accuracy by employing constant gain least squares instead of ordinary least squares. In particular, when using a gain of 0.05, constant gain least squares generally outperforms the corresponding autoregressive model estimated with ordinary least squares. In fact, at longer forecast horizons, the root mean square forecast error is reliably lowered for all four countries and for all lag lengths considered in the study.     

Housing Price Dynamics,Mortgage Credit and Reverse Mortgage Demand: Theory and Empirical Evidence

This article presents some theoretical and empirical approaches for identifying interactions among fundamental economic variables that determine housing prices. Using home equity conversion mortgage (HECM) loan‐level data, this study quantifies the major risks of reverse mortgages and shows that higher housing prices induce higher demand for reverse mortgages among elderly homeowners. Senior citizens rationally hold pessimistic expectations about future housing price appreciation and lock in their home‐equity gains by obtaining reverse mortgages, which in turn led to the substantial HECM growth prior to the financial crisis of 2008. A novel simulation also forecasts HECM loans under various economic scenarios. From a mortgage credit perspective, these findings generate several policy implications for the implementation of “HECM 3.0.”     

Regulatory Soft Interventions in the Chinese Market: Compliance Effects and Impact on Option Market Efficiency

Securities Laws in China are administered by the China Securities Regulatory Commission (CSRC). The CSRC has great flexibility in administering securities laws since the committee represents the will of the state. Under the state‐controlled financial system, the CSRC works closely with state‐controlled financial firms and suggests, but does not mandate, actions to be taken in the equity market, especially during periods of extreme market stress. These suggestions, or soft interventions, have been used to block trades associated with short sales, significantly reducing short‐sales volume. With daily and intraday data, we investigate the impact of these interventions on put‐call parity and implied volatilities. There is overwhelming evidence of increased deviations from put‐call parity and changes in implied volatility after soft interventions. Our results are robust after allowing for bid‐ask spreads, taxes, transaction costs, and difference‐in‐differences comparisons with control securities in the Hong Kong market.     

Social representations and social marketing: Effectiveness of awareness campaigns on the representation of public policies?

The research fits into the theory of the central core within the social representations theory. The approach argues the existence of two components: the core and the periphery. Each one has its own characteristics and a role to play. Within this framework, transformation of social representations can be the consequence of practices modification. However, in this study, we are interested in the effect of communication. We focus on the social representation of the public policy of the 30 kmh speed limit developed in Europe since the 1990's. And we test the impact of two awareness campaigns: the first one aims at reinforcing one aspect of the central core of the representation, the second one aims at contradicting one aspect of the core. Three groups of participants answer a questionnaire of representation related to the 30 kmh speed limit: two experimental groups (each one receiving a campaign) and one control group. Results confirm the relevance of using communication and social marketing methods in order to transform social representations. According to the type information, results are different. Discussion highlights the interest of using social representations in order to build social marketing campaigns.