Research articles for the 2019-07-03

A Comment on "Estimating Dynamic Discrete Choice Models with Hyperbolic Discounting" by Hanming Fang and Yang Wang
Jaap H. Abbring,Øystein Daljord

The recent literature often cites Fang and Wang (2015) for analyzing the identification of time preferences in dynamic discrete choice under exclusion restrictions (e.g. Yao et al., 2012; Lee, 2013; Ching et al., 2013; Norets and Tang, 2014; Dub\'e et al., 2014; Gordon and Sun, 2015; Bajari et al., 2016; Chan, 2017; Gayle et al., 2018). Fang and Wang's Proposition 2 claims generic identification of a dynamic discrete choice model with hyperbolic discounting. This claim uses a definition of "generic" that does not preclude the possibility that a generically identified model is nowhere identified. To illustrate this point, we provide two simple examples of models that are generically identified in Fang and Wang's sense, but that are, respectively, everywhere and nowhere identified. We conclude that Proposition 2 is void: It has no implications for identification of the dynamic discrete choice model. We show that its proof is incorrect and incomplete and suggest alternative approaches to identification.

A Credit-Based Theory of the Currency Risk Premium
Della Corte, Pasquale ,Jeanneret, Alexandre,Patelli, Ella
This paper extends the work of Kremens and Martin (2019) and uncovers a novel component for exchange rate predictability. Our theory shows that currency returns compensate investors for the expected currency depreciation in the case of a severe but rare credit event. We compute this risk compensation - the credit-implied risk premium (CRP) - by exploiting the price difference between sovereign credit default swaps denominated in different currencies. Using data for 16 Eurozone countries over the period 2010-17, we find that CRP positively forecasts the euro-dollar exchange rate return between one-week and six-month horizon, both in-sample and out-of-sample. We also show that currency trading strategies that exploit the informative content of CRP generate substantial out-of-sample economic value.

A Mathematical Analysis of Stock Price Oscillations within Financial Markets.
Mushunje, Leonard
The application of econophysics in modeling investment assets’ market behavior is considerably increasing and is highly becoming an area of interest for market actors including quants and econophysicists. This study investigated stock price oscillatory behavior in stock markets. We applied mathematical methods to derive the stock market price oscillatory model from the physics field. We considered two distinct price level cases that is, high and low price cases and presented/ derived a corresponding model for each case. We managed also to derive an explicit time function which measures and calculate the time taken by stock prices to oscillate between two values. Also, from the low-price oscillation model we managed to investigate stock price motion at different times with all other external forces held constant. Results obtained showed that, although stock price movement (volatility) is time dependent, it is propelled and fueled by market forces such as stock volume, market size and classical forces of demand and supply. Above all we evaluated our model using means difference test of hypothesis using actual and estimated stock price data. We failed to reject our null hypothesis and concluded that, there is no statistical significant difference in the means which highly support the precision of our model. Despite all this, we sensed a gap that other researchers can work on such as the application of simple harmonic oscillations in stock markets and interestingly we recommended the use of the current advanced software such as R studio for precise and accurate results and viable conclusions.

Analytical Validation Formulas for Best Estimate Calculation in Traditional Life Insurance
Simon Hochgerner,Florian Gach

Within the context of traditional life insurance, a model-independent relationship about how the market value of assets is attributed to the best estimate, the value of in-force business and tax is established. This relationship holds true for any portfolio under run-off assumptions and can be used for the validation of models set up for Solvency~II best estimate calculation. Furthermore, we derive a lower bound for the value of future discretionary benefits. This lower bound formula is applied to publicly available insurance data to show how it can be used for practical validation purposes.

Board Structure and Bank Performance: Evidence for the Greek Banking Industry During Crisis Period
Georgantopoulos, Andreas G.,Filos, John
The recent financial crisis has heightened the research interest worldwide in the relationship between various corporate governance (CG) mechanisms and firm performance. Nevertheless, few published papers focus on investigating this nexus for the case of the banking industry. This study is the first that empirically assesses the impact of board structure on bank performance for the case of Greek banks using a variety of econometric methodologies. Exhaustive empirical findings are presented based on a sample of 13 Greek banks and for a period of severe sovereign debt crisis (2008-2014). Empirical findings support an inverted U-shaped relation between board size and bank performance and between the proportion of independent board members and performance of Greek banks. All empirical findings are generated after we control for mergers and acquisitions activity, bank size and capital adequacy of each bank. Overall, our results document the positive contribution of the implemented CG regulatory framework on the Greek bank value.

Conservatism in Debt Contracting: Theory and Empirical Evidence
Penalva, Fernando,Wagenhofer, Alfred
This paper surveys both the theoretical and the empirical archival literature on conservatism when accounting information is used for debt contracting. The theoretical literature shows mixed results whether conservative accounting is desirable, which depends on the underlying agency problem, the information available, and the contracting space. The empirical literature takes a more holistic view in measuring the degree of conservatism. It studies a broad array of possible effects of conservatism in debt financing, but also beyond. The results overwhelmingly support the view that conservatism plays a useful role in debt contracting, although there are also some mixed results. We describe key results and empirical designs, and we provide suggestions for future research.

Consumer Payment Preferences and the Impact of Technology and Regulation: Insights from the Visa Payment Panel Study
Akana, Thomas
The Consumer Finance Institute hosted a workshop in August 2018 featuring Michael Marx, senior director at Visa, Inc., to discuss recent data from the Visa Payment Panel, highlighting the evolution of consumer payment preferences since the Great Recession and the passage of the Credit Card Accountability Responsibility and Disclosure (CARD) Act of 2009. A number of intriguing trends were discussed. Debit card adoption and growth have shown signs of slowing, even as regulatory changes have increased its prevalence recently among younger consumers. Credit card usage continues to grow and has shifted largely to rewards-based products. Payment preferences for younger consumers appear to be influenced by the availability of financial products (driven by social and regulatory influences) as well as the advent of mobile wallets and person-to-person (P2P) technologies. This paper summarizes Marx's presentation along with additional research.

Consumption-Based Asset Pricing When Consumers Make Mistakes
Anderson, Christopher
The predictions of consumption-based asset pricing models rely heavily on the assumption of hyper-rational consumers who make no mistakes. Allowing for consumers to make even small mistakes, such as reacting to news with a delay, can completely break these models' predictions. To address this problem, I separate consumption and portfolio choice in order to identify which predictions are robust to allowing for consumer mistakes. I build a model in which a portfolio manager selects portfolio weights on behalf of a consumer. The consumer has a nearly arbitrary consumption policy which could reflect a range of realistic consumption mistakes. In the case of power utility, an asset's riskiness depends on its exposure to long-run consumption and expected return shocks, not single-period consumption as in the standard model. My results apply to a wide range of environments and generalize beyond power utility. In the general case, an asset's riskiness depends on its exposure to long-run risks. I provide empirical evidence that expected return shocks are negatively priced in the cross section of stock returns, as the model predicts, and can account for 1.3 percentage points of the equity premium.

Corporate Governance Mechanisms and Bank Performance: Evidence from the Greek Banks during Crisis Period
Georgantopoulos, Andreas G.,Filos, John
This paper is the first research attempt that investigates the impact of a large number of corporate governance mechanisms on the performance of Greek banks, employing widely accepted in the literature of corporate governance econometric models. Results indicate that system GMM models are more suitable methodological tools than pooled OLS and fixed effects models to address well-known econometric problems, such as endogeneity, simultaneity and unobserved heterogeneity of individual banks. The findings, as derived from the application of GMM models, imply that increasing the board size and the number of independent directors can both have a positive impact on the performance of Greek banks, but only up to a certain point. Thus, bank efficiency will increase as board size and the proportion of independent directors grow up to a point where these relationships hit a maximum from which bank performance decreases. Our multi-model estimations failed to trace any significant contribution of the number of female and foreign directors on the performance of Greek banks. Finally, the dual appointment of a CEO as Chairman appears to affect negatively two out of four proxies of bank performance. Overall, the results provide support for the positive impact of corporate governance mechanisms on the performance of Greek banks. The significance of these findings increases, considering that the period under study (2008-2014) is marked by high market volatility and uncertainty due to the well-known debt crisis that plagues Greece since the beginning of 2008.

Do Corporate Governance Analysts Matter? Evidence from the Expansion of Governance Analyst Coverage
Lehmann, Nico
This paper examines the economic consequences of the initiation of governance analyst coverage. Governance analysts process, enhance, and disseminate governance‐related information to capital market participants via, for example, governance reports and ratings. Using an exogenous shock in the United Kingdom, I find that an increase in governance analyst coverage results in increased governance quality, improved liquidity, increased financial analyst following, and improved investor breadth. These findings are consistent with governance analysts creating value for firms via monitoring, information dissemination/production, and investor recognition.

Election predictions are arbitrage-free: response to Taleb
Aubrey Clayton

Taleb (2018) claimed a novel approach to evaluating the quality of probabilistic election forecasts via no-arbitrage pricing techniques and argued that popular forecasts of the 2016 U.S. Presidential election had violated arbitrage boundaries. We show that under mild assumptions all such political forecasts are arbitrage-free and that the heuristic that Taleb's argument was based on is false.

Emergence of multiplicity of time scales in the modeling of climate, matter, life, and economy
Bernhelm Booss-Bavnbek,Rasmus Kristoffer Pedersen,Ulf Rørbæk Pedersen

We address dfferences between characteristic times in climate change and show the universal emergence of multiple time scales in material sciences, biomedicine and economics.

Financial and Business Services: A Guide for the Perplexed
Wojcik, Dariusz
Financial and business services (FABS), including accounting, law and business consulting are crucial for understanding the world economy, and have attracted a lot of interdisciplinary research. Within this literature, however, there is a panoply of concepts that can easily perplex readers, particularly those new to this field of enquiry. This paper a) clarifies terms related to FABS by explaining their origin, evolution and relationships with statistical classifications; b) showcases the variety of data available on FABS, highlighting some important patterns and trends in FABS development; and c) suggests some directions for future research on FABS.

Impact of Public Information Arrivals on Cryptocurrency Market: A Case of Twitter Posts on Ripple
Gunay, Samet
Public information arrivals and their immediate incorporation in asset price is a key component of semi-strong form of the Efficient Market Hypothesis. In this study, we explore the impact of public information arrivals on cryptocurrency market via Twitter posts. The empirical analysis was conducted through various methods including Kapetanios unit root test, Maki cointegration analysis and Markov regime switching regression analysis. Results indicate that while in bull market positive public information arrivals have a positive influence on Ripple’s value; in bear market, however, even if the company releases good news, it does not divert out the Ripple from downward trend.

Impact of Readability on Corporate Bond Market
Fang-Klingler, Jieyan
This paper investigates the impact of annual report readability on the corporate bond market. My findings indicate that in the US corporate bond market, firms with less readable annual reports tend to have higher credit spreads, higher credit spread volatilities, higher transaction costs, higher transaction costs volatility, smaller trade size, higher number of trades and higher number of trades volatility. This paper also provides the first answers to the question as to whether annual report readability matters to international market participants in the corporate bond market. My findings show evidence that in the EUR corporate bond market, firms with more readable annual reports are associated with lower credit spreads.

Investment Dynamics and Earnings-Return Properties: A Structural Approach
Breuer, Matthias,Windisch, David
We propose the standard neoclassical model of investment under uncertainty with short‐run adjustment frictions as a benchmark for earnings‐return patterns absent accounting influences. We show that our proposed benchmark generates a wide range of earnings‐return patterns documented in accounting research. Notably, our model generates a concave earnings‐return relation, similar to that of Basu [1997], and predicts that the earnings‐return concavity increases with the volatility of firms’ underlying shock processes and decreases with the level of firms’ investments. We find strong empirical support for these predictions. Overall, our evidence suggests that our proposed benchmark is useful for understanding the joint dynamics of variables of interest to accounting research (e.g., earnings, returns, investment, market‐to‐book) absent accounting influences, a necessary precondition for inferring the effects of accounting from these dynamics.

Markovian lifts of positive semidefinite affine Volterra type processes
Christa Cuchiero,Josef Teichmann

We consider stochastic partial differential equations appearing as Markovian lifts of matrix valued (affine) Volterra type processes from the point of view of the generalized Feller property (see e.g., \cite{doetei:10}). We introduce in particular Volterra Wishart processes with fractional kernels and values in the cone of positive semidefinite matrices. They are constructed from matrix products of infinite dimensional Ornstein Uhlenbeck processes whose state space are matrix valued measures. Parallel to that we also consider positive definite Volterra pure jump processes, giving rise to multivariate Hawkes type processes. We apply these affine covariance processes for multivariate (rough) volatility modeling and introduce a (rough) multivariate Volterra Heston type model.

Moving into the Mainstream: Who Graduates from Secured Credit Card Programs?
Santucci, Larry
Secured credit cards--credit cards whose limit is fully or partially collateralized by a bank deposit--are considered a gateway product to mainstream credit access. As consumers demonstrate good usage and repayment behavior, they may be offered the opportunity to graduate to an unsecured credit card. This paper uses anonymized account-level data to examine the prevalence of account graduation in the secured credit card market since 2012. Using a fixed effects regression model, we identify a set of usage and repayment behaviors that are correlated with account graduation.

Nachhaltige Geldanlage-Strategien im Eigengeschäft (Depot-A-Geschäft) der Sparkassen und Landesbanken (Sustainable Investments and Strategies for the Proprietary Trading of German Savings Banks)
Renz, Manuel
German Abstract: Der Forschungsbericht analysiert die Anwendbarkeit nachhaltiger Geldanlagestrategien für das Eigengeschäft (Depot A) deutscher Sparkassen und Landesbanken. Mittels einer Panelanalyse werden zuerst Jahresabschlussdaten dieser Bankengruppe für die Jahre 2013 bis 2015 ausgewertet, um das Eigengeschäft in verschiedene Anlagestrategien kategorisieren zu können. Darauf basierend werden mittels eines empirischen Analysemodell (Vector Error Correction Model, kurz VEC) in Kombination mit einer sog. Bootstrap-Analyse verschiedene Simulationen vorgenommen: Es erfolgt ein Vergleich von konventionellen zu nachhaltigen Geldanlagestrategien anhand von verschiedenen Performance-Maßen. Ziel ist dazulegen, welche dieser Strategien für die verschiedenen zuvor ermittelten Kategorien des Eigengeschäfts passend sind.. English Abstract: This paper analyses the suitability of sustainable investments and strategies for the proprietary trading of German savings banks. The paper employs a preliminary panel data analysis of financial statements of all German savings banks from the years of 2013 to 2015 in order to cluster the German savings banks from passive to active proprietary investment institutions. Based on the results of the clustering, the paper uses a vector error correction model (VECM), combined with a bootstrap simulation analysis, to compare different sustainable investment strategies and conventional investment strategies for the strategic asset allocation of German savings banks by their future return distribution paths.

P2P Loan acceptance and default prediction with Artificial Intelligence
Jeremy D. Turiel,Tomaso Aste

Logistic Regression and Support Vector Machine algorithms, together with Linear and Non-Linear Deep Neural Networks, are applied to lending data in order to replicate lender acceptance of loans and predict the likelihood of default of issued loans. A two phase model is proposed; the first phase predicts loan rejection, while the second one predicts default risk for approved loans. Logistic Regression was found to be the best performer for the first phase, with test set recall macro score of $77.4 \%$. Deep Neural Networks were applied to the second phase only, were they achieved best performance, with validation set recall score of $72 \%$, for defaults. This shows that AI can improve current credit risk models reducing the default risk of issued loans by as much as $70 \%$. The models were also applied to loans taken for small businesses alone. The first phase of the model performs significantly better when trained on the whole dataset. Instead, the second phase performs significantly better when trained on the small business subset. This suggests a potential discrepancy between how these loans are screened and how they should be analysed in terms of default prediction.

Pricing Assets When Risk Aversion Decreases With the Delay
Schernberg, Hélène
I develop a consumption-based model with a dynamically inconsistent representative agent whose risk aversion decreases with the delay. When this agent is naive, this model generates high equity premia and low interest rates. Moreover, the term structure of equity premia is decreasing. Finally, risk aversion and the market price of risk are counter-cyclical, provided the elasticity of intertemporal substitution is below unity. The preferences are a simple transformation of the standard model. As in the habit formation model of Campbell and Cochrane (1999), risk aversion depends on past consumption. As in the long-run risks model of Bansal and Yaron (2004), counter-cyclicality will depend on news about long-term consumption prospects.

The Valuation Properties of the Rating to Economic Profit
Ballas, Apostolos,Demirakos, Efthimios
The purpose of this paper is to critically analyze and extend a fundamentals-based investment criterion (HSBC’s Rating to Economic Profit â€" REP). Although variations of this model are used extensively in practice, REP has mostly been ignored by academics. This study justifies the use of REP as an investment appraisal technique, provides significant extensions of the basic formula, and discusses implementation issues. It also conducts a content analysis of selected analysts’ reports, which may serve as insightful cases facilitating the work of valuation educators and practitioners. The authors explicitly show the neoclassical foundations of REP by deriving it from the dividend discount and residual income models and construct a growth-adjusted REP formula. They also provide some descriptive evidence of the usefulness of accrual accounting numbers over dividends for valuation purposes. This paper should be of interest to empiricists in the area of market-based accounting research, who can assess the profitability of investment strategies based on a model that is used in practice; and valuation educators, who can complement their teaching of valuation methodologies with a sophisticated, yet easy to understand and use, valuation ratio. This paper should also be of interest to financial analysts, who might find useful a theoretical perspective on a practical valuation model. To the best of the authors’ knowledge, this is the first academic study that offers a comprehensive analysis of REP.

Was the U.S. Great Depression a Credit Boom Gone Wrong?
Postel-Vinay, Natacha
The US Great Depression was preceded by almost a decade of credit growth. This review paper suggests that the 1920s credit boom went through two phases: one, up to around 1927, when credit grew in concert with money; another one, from around 1928 to 1929, when credit grew faster than money. Credit from commercial banks grew tremendously, but credit from savings institutions grew even more. The fact that money was relatively stable in the second phase fits Friedman and Schwartz’s finding that the 1920s were not an inflationary decade. Rather, the credit boom was reflected in asset price inflations which occurred in certain parts of the economy, such as the real estate and stock markets. As the literature tends to show, the growth of credit made households and financial institutions vulnerable to shocks. While a decoupling of credit growth from money growth in the post-1945 period has been previously noted (Schularick and Taylor 2012), this paper suggests that such a decoupling already occurred in 1920s America. Standard monetary policy tightening was not enough to quell the boom, which points to macro- and micro-prudential tools as potentially more successful alternative measures to keep credit under control.

Weak Limits of Random Coefficient Autoregressive Processes and their Application in Ruin Theory
Yuchao Dong,Jérôme Spielmann

We prove that a large class of discrete-time insurance surplus processes converge weakly to a generalized Ornstein-Uhlenbeck process, under a suitable re-normalization and when the time-step goes to 0. Motivated by ruin theory, we use this result to obtain approximations for the moments, the ultimate ruin probability and the discounted penalty function of the discrete-time process.

Стратегическо управление на информационните технологии във фирмата (Strategic Management of Information Technology in the Company)
Bojinov, Bojidar V.
Bulgarian Abstract: Настоящата монография си поставя за цел да систематизира и изведе ключовите предизвикателства пред управлението на съвременните информационни технологии във фирмената дейност. Ð"оказва се необходимостта съвременните ИТ мениджъри да притежават специфичен микс от технически, професионални и управленски умения, които да им позволят постигането на стратегическите цели на фирмата в условията на ресурсна ограниченост и засилен конкурентен натиск.English Abstract: The present monograph aims to systematize and highlight the key challenges for the management of modern information technologies in the company's business. It proves the need for modern IT managers to have a specific mix of technical, professional and managerial skills to enable them to achieve the company's strategic goals in terms of resource constraints and increased competitive pressures.

ФИНАНСОÐ'О УПРАÐ'ЛЕНИЕ НА ИНФОРМАЦИОННИТЕ ТЕХНОЛОÐ"ИИ Ð' УНИÐ'ЕРСИТЕТИТЕ - ПРЕÐ"ИЗÐ'ИКАТЕЛСТÐ'А И Ð'ЪЗМОЖНОСТИ ЗА ПРИЛАÐ"АНЕ НА Ð'ОÐ"ЕЩИ КОРПОРАТИÐ'НИ ПРАКТИКИ (Financial Management of Information Technologies in Universities â€" Challenges and Possibilities for the Implementation of Leading Corporate Practices)
Bojinov, Bojidar V.
Bulgarian Abstract: Настоящата монография си поставя за цел да систематизира и изведе ключовите предизвикателства пред финансовото управление на съвременните информационни технологии във висшите училища с доминантно публично финансиране. Ð"оказва се необходимостта съвременните ИТ мениджъри да притежават специфичен микс от технически, професионални и управленски умения, които да им позволят постигането на стратегическите цели на фирмата в усло-вията на ресурсна ограниченост и засилен конкурентен натиск. Монографията разширява и надгражда тематичните изследвания „Стратегическо управление на информационните технологии във фирмата“ (София, 2017) и „Предизвикателства пред управлението на информационните технологии в университетите“ (Свищов, 2017).English Abstract: The present monograph aims to systemize and highlight the key challenges for the financial management of modern IT in higher education institutions with dominant public funding. It proves the need for modern IT managers to have a specific mix of technical, professional and managerial skills to enable them to achieve the company's strategic goals under resource constraints and enhanced competitive pressures. Modernization and upgrading of the thematic studies "Strategic Management of Information Technologies in the Company" (Sofia, 2017) and "Challenges to the Information Technologies Management in Universities" (Svishtov, 2017).