Research articles for the 2020-11-17

A Comparative Study of Stock Screening Methodologies in Stock Exchanges of Bangladesh and Malaysia and Lessons to Be Learnt
Jalil, Md. Abdul
The study aims to compare and critically evaluate the stock screening practices between Bangladesh and Malaysia. The study is descriptive in nature. Secondary data is utilized and collected from the books, standards, journal articles and relevant publications. It is found that exchanges of both countries differ in formulating ratios, denominators, numerators and in determining benchmark. A stock can be categorized as Shari’ah compliant in Bursa Malaysia, but may be non-Shari’ah compliant in Dhaka Stock Exchange (DSE), and Chittagong Stock Exchange (CSE). Though, Malaysia observes the same guidelines throughout the country, but this is not the case for Bangladesh. A stock may be considered Shari’ah compliant in DSE but not in CSE and vice versa. After analyzing, it is clear that DSE and CSE may improve their ratios and it is also advisable to use single methodology at least in one jurisdictions to avoid the confusions among masses. The findings of the study will help the authority to look at the deep insight of the issue and update the current criteria.

A Repo Model of Fire Sales with VWAP and LOB Pricing Mechanisms
Bichuch, Maxim,Feinstein, Zachary
We consider a network of banks that optimally choose a strategy of asset liquidations and borrowing in order to cover short term obligations. The borrowing is done in the form of collateralized repurchase agreements, the haircut level of which depends on the total liquidations of all the banks. Similarly the fire-sale price of the asset obtained by each of the banks depends on the amount of assets liquidated by the bank itself and by other banks. By nature of this setup, banks’ behavior is considered as a Nash equilibrium. This paper provides two forms for market clearing to occur: through a common closing price and through an application of the limit order book. The main results of this work are providing sufficient conditions for existence and uniqueness of the clearing solutions (i.e., liquidations, borrowing, fire sale prices, and haircut levels).

An International Analysis of Director Equity Incentives and Earnings Management
Liao, Min-Yu (Stella),Ferris, Stephen P.
Using data from 29 countries, I examine how directors’ equity incentives affect earnings management internationally. I find that firms whose directors awarded higher percentage equity-based compensation are associated with greater use of earnings management. Such positive relation between equity incentives and earnings management persists regardless whether a director serves on the audit committee, or whether a director is classified as an independent or inside director. However, this association is reversed at firms with greater board or audit committee independence. Finally, using a matched sample of American Depository Receipts (ADRs) and non-ADRs, I provide evidence that although ADRs exhibit less earnings management relative to non-ADRs, having an ADR does not deter the attempt of directors with high equity incentives to manipulate earnings.

Are Cryptocurrencies Becoming More Interconnected?
Aslanidis, Nektarios,Bariviera, Aurelio F.,Perez-Laborda, Alejandro
This paper studies the dynamic market linkages among cryptocurrencies during August 2015 - July 2020 and finds a substantial increase in market linkages for both returns and volatilities. We use different methodologies to check the different aspects of market linkages. Financial and regulatory implications are discussed.

Assessing the use of transaction and location based insights derived from Automatic Teller Machines (ATMs) as near real time sensing systems of economic shocks
Dharani Dhar Burra,Sriganesh Lokanathan

Big data sources provide a significant opportunity for governments and development stakeholders to sense and identify in near real time, economic impacts of shocks on populations at high spatial and temporal resolutions. In this study, we assess the potential of transaction and location based measures obtained from automatic teller machine (ATM) terminals, belonging to a major private sector bank in Indonesia, to sense in near real time, the impacts of shocks across income groups. For each customer and separately for years 2014 and 2015, we model the relationship between aggregate measures of cash withdrawals for each year, total inter-terminal distance traversed by the customer for the specific year and reported customer income group. Results reveal that the model was able to predict the corresponding income groups with 80% accuracy, with high precision and recall values in comparison to the baseline model, across both the years. Shapley values suggest that the total inter-terminal distance traversed by a customer in each year differed significantly between customer income groups. Kruskal-Wallis test further showed that customers in the lower-middle class income group, have significantly high median values of inter-terminal distances traversed (7.21 Kms for 2014 and 2015) in comparison to high (2.55 Kms and 0.66 Kms for years 2014 and 2015), and low (6.47 Kms for 2014 and 2015) income groups. Although no major shocks were noted in 2014 and 2015, our results show that lower-middle class income group customers, exhibit relatively high mobility in comparison to customers in low and high income groups. Additional work is needed to leverage the sensing capabilities of this data to provide insights on, who, where and by how much is the population impacted by a shock to facilitate targeted responses.

Audit Committee Financial Expertise, Litigation Risk, and Auditor-Provided Tax Services
Bédard, Jean,Paquette, Suzanne M.
The Sarbanes-Oxley Act greatly expanded audit committees’ oversight responsibilities by requiring that they preapprove all non-prohibited non-audit services (NAS). Using data from 2003 to 2011, we find that tax NAS are significantly lower when accounting financial experts (ACT-FEs) serve on the audit committee, suggesting that ACT-FEs consider auditor independence risk, perceived and/or real, more than other members, including supervisory experts, to the point of not accepting any tax NAS, not even compliance. However, in firms with higher ex-ante litigation risk, ACT-FEs approve relatively more tax NAS than other members, suggesting that they accept the costs of a perceived lack of auditor independence from tax NAS in return for the potential benefits of increased financial reporting quality arising from tax NAS. Our analysis by sub-period (2003 to 2006 versus 2007 to 2011) shows that this result is significant only in the second period. ACT-FEs’ differential evaluation of the trade-off between the benefits and costs of joint audit and tax NAS provision between the two periods suggests the need for additional research in later post SOX years.

Avoiding Root-Finding in the Krusell-Smith Algorithm Simulation
Bakota, Ivo
This paper proposes a novel method to compute the simulation part of the Krusell-Smith (1997, 1998) algorithm when the agents can trade in more than one asset (for example, capital and bonds). The Krusell-Smith algorithm is used to solve general equilibrium models with both aggregate and uninsurable idiosyncratic risk and can be used to solve bounded rationality equilibria and to approximate rational expectations equilibria. When applied to solve a model with more than one financial asset, in the simulation, the standard algorithm has to impose equilibria for each additional asset (find the market-clearing price), for each period simulated. This procedure entails root-finding for each period, which is computationally very expensive. I show that it is possible to avoid this root-finding by not imposing the equilibria each period, but instead by simulating the model without market clearing. The method updates the law of motion for asset prices by using Newton-like methods (Broyden’s method) on the simulated excess demand, instead of imposing equilibrium for each period and running regressions on the clearing prices. Since the method avoids the root-finding for each time period simulated, it leads to a significant reduction in computation time. In the example model, the proposed version of the algorithm leads to a 32% decrease in computational time, even when measured conservatively. This method could be especially useful in computing asset pricing models (for example, models with risky and safe assets) with both aggregate and uninsurable idiosyncratic risk since methods which use linearization in the neighborhood of the aggregate steady state are considered to be less accurate than global solution methods for these particular types of models.

Building Better Retirement Systems in the Wake of the Global Pandemic
Mitchell, Olivia S.
In the wake of the global pandemic known as COVID-19, retirees, along with those hoping to retire someday, have been shocked into a new awareness of the need for better risk management tools to handle longevity and aging. This paper offers an assessment of the status quo prior to the spread of the coronavirus, evaluates how retirement systems are faring in the wake of the shock. Next we examine insurance and financial market products that may render retirement systems more resilient for the world’s aging population. Finally, potential roles for policymakers are evaluated.

COVID-19 and the stock market: evidence from Twitter
Rahul Goel,Lucas Javier Ford,Maksym Obrizan,Rajesh Sharma

COVID-19 has had a much larger impact on the financial markets compared to previous epidemics because the news information is transferred over the social networks at a speed of light. Using Twitter's API, we compiled a unique dataset with more than 26 million COVID-19 related Tweets collected from February 2nd until May 1st, 2020. We find that more frequent use of the word "stock" in daily Tweets is associated with a substantial decline in log returns of three key US indices - Dow Jones Industrial Average, S&P500, and NASDAQ. The results remain virtually unchanged in multiple robustness checks.

Capital Income Taxation with Portfolio Choice
Bakota, Ivo
This paper analyzes re-distributional and macroeconomic effects of differential taxation of financial assets with a different risk levels. The re-distributive effect stems from the fact that various households hold portfolios with a starkly different risk levels. In particular, poor households primarily save in safe assets, while rich households often invest a substantially higher share of their wealth in (risky) equity. At the same time, equity and safe assets are often taxed at different rates in many tax codes. This is primarily because investments in equity (which are relatively riskier) are taxed both as corporate and personal income, unlike debt, which is tax deductible for corporations. This paper firstly builds a simple theoretical two-period model which shows that the optimal tax wedge between risky and safe assets is increasing in the underlying wealth inequality. Furthermore, I build a quantitative model with a continuum of heterogeneous agents, parsimonious life-cycle, borrowing constraint, aggregate shocks and uninsurable idiosyncratic shocks, in which the government raises revenue by using linear taxes on risky and safe assets. Simulations of quantitative models shows that elimination of differential asset taxation leads to a welfare loss equivalent to a 0.3% permanent reduction in consumption. I find that the optimal tax wedge between taxes on equity and debt is higher than the one in the U.S. tax code.

Central Bank Money: Liability, Asset, or Equity of the Nation?
Kumhof, Michael,Allen, Jason G,Bateman, Will,Lastra, Rosa M.,Gleeson, Simon,Omarova, Saule T.
Based on legal arguments, we advocate a conceptual and normative shift in our understanding of the economic character of central bank money (CBM). The widespread treatment of CBM as a central bank liability goes back to the gold standard, and uses analogies with commercial bank balance sheets. However, CBM is sui generis and legally not comparable to commercial bank money. Furthermore, in modern economies, CBM holders cannot demand repayment of CBM in anything other than CBM. CBM is not an asset of central banks either, and it is not central bank shareholder equity because it does not confer the same ownership rights as regular shareholder equity. Based on comparisons across a number of legal characteristics of financial instruments, we suggest that an appropriate characterization of CBM is as ‘social equity’ that confers rights of participation in the economy’s payment system and thereby its economy. This interpretation is important for macroeconomic policy in light of quantitative easing and potential future issuance of central bank digital currency (CBDC). It suggests that in robust economies with credible monetary institutions, and where demand for CBM is sufficiently and sustainably high, large-scale issuance such as under CBDC is not inflationary, and it does not weaken public sector finances.

Coins for Bombs - Does Bitcoin Finance Terrorist Attacks?
Amiram, Dan,Jorgensen, Bjorn,Rabetti, Daniel
Governments, market regulators, and financial institutions exert significant resources to curtail terrorist financing through the global financial system. However, cryptocurrencies may enable terror entities to circumvent those efforts. In this study, we empirically examine whether cryptocurrencies play a significant role in terror financing by combining anomaly detection techniques, network analysis, and machine learning on millions of Bitcoin transfers. We find evidence of abnormal transfers concentrated around large terrorist attacks. Moreover, we show that these transfers have predictive power. Our results suggest that regulation targeted to crypto exchanges’ compliance practices is likely to curb terrorism.

Concepts, Components and Collections of Trading Strategies and Market Color
Kashyap, Ravi
This paper acts as a collection of various trading strategies and useful pieces of market information that might help to implement such strategies. This list is meant to be comprehensive (though by no means exhaustive) and hence we only provide pointers and give further sources to explore each strategy further. To set the stage for this exploration, we consider the factors that determine good and bad trades, the notions of market efficiency, the real prospect amidst the seemingly high expectations of homogeneous expectations from human beings and the catch-22 connotations that arise while comprehending the true meaning of rational investing. We can broadly classify trading ideas and client market color material into Delta-One and Derivative strategies since this acts as a natural categorization that depends on the expertise of the various trading desks that will implement these strategies. For each strategy, we will have a core idea and we will present different flavors of this central theme to demonstrate that we can easily cater to the varying risk appetites, regional preferences, asset management styles, investment philosophies, liability constraints, investment horizons, notional trading size, trading frequency and other preferences of different market participants.

Corporate Environmental Disclosures and Risk Management
Chung, Chune Young,Kim, Incheol,Yang, Rong
This study examines the risk management engagement of U.S. firms in polluting industries. Using hand-collected voluntary corporate environmental reports, we find that a firm’s total toxic chemical releases increase the intensity of its corporate environmental disclosures, as measured by their issuance frequency and length. Proactive environmental disclosures significantly decrease industry-adjusted firm systematic risk (beta), especially in highly polluting industries. This risk reduction is more evident among firms that undertake green innovations. In addition, we find that firms with more socially connected boards and female directors exhibit greater risk reductions relative to their counterparts. Overall, this study highlights the mitigating effect of corporate environmental transparency on firm risk.

Diagnostic Uncertainty and Insurance Coverage in Credence Goods Markets
Balafoutas, Loukas,Fornwagner, Helena,Kerschbamer, Rudolf,Sutter, Matthias
Credence goods markets – like for health care or repair services – with their informational asymmetries between sellers and customers are prone to fraudulent behavior of sellers and resulting market inefficiencies. We present the first model that considers both diagnostic uncertainty of sellers and the effects of insurance coverage of consumers in a unified framework. We test the model’s predictions in a laboratory experiment. Both in theory and in the experiment diagnostic uncertainty decreases the rate of efficient service provision and leads to less trade. In theory, insurance also decreases the rate of efficient service provision, but at the same time it also increases the volume of trade, leading to an ambiguous net effect on welfare. In the experiment, the net effect of insurance coverage on efficiency turns out to be positive. We also uncover an important interaction effect: if consumers are insured, experts invest less in diagnostic precision. We discuss policy implications of our results.

Do Proprietary Traders Provide Liquidity?
Bergman, Nittai,Kadan, Ohad,Michaely, Roni,Moulton, Pamela C.
Proprietary traders’ role in capital markets has received heightened attention with the debate over the Volcker Rule following the 2008-09 financial crisis. To date, there is little evidence on whether proprietary traders provide or take liquidity and how their behavior evolves over the business cycle. Using a unique dataset of proprietary trading activity, we show that proprietary traders concentrate their trades in a subset of stocks that are liquid to begin with. On average, proprietary traders provide liquidity in their trades, but they do so selectively, in large and liquid stocks, and when intermediary balance sheets are strong. Finally, proprietary traders do not increase their liquidity provision during periods of low returns when liquidity dries up.

Does Big Data Improve Financial Forecasting? The Horizon Effect
Dessaint, Olivier,Foucault, Thierry,Frésard, Laurent
We study how data abundance affects the informativeness of financial analysts' forecasts at various horizons. Analysts produce forecasts of short-term and long-term earnings and choose how much information to collect about each horizon to minimize their expected forecasting error, net of information acquisition costs. When the cost of obtaining short-term information drops (i.e., more data becomes available), analysts change their information collection strategy in a way that renders their short-term forecasts more informative but that possibly reduces the informativeness of their long-term forecasts. Using a large sample of analysts' forecasts at various horizons and novel measures of their exposure to abundant data (e.g., social media data), we provide empirical support for this prediction, which implies that data abundance can impair the quality of long-term forecasts.

Fat tails arise endogenously in asset prices from supply/demand, with or without jump processes
Gunduz Caginalp

Fat tails arise endogenously from modeling of price change based on a quotient of arbitrarily correlated demand and supply (i.e., excess demand) whether or not jump discontinuities are present. The assumption is that supply and demand are described by drift terms, Brownian (i.e., Gaussians or normals) and compound Poisson jump processes. If $P^{-1}dP/dt$ (the relative price change in an interval $dt$) is given by a suitable function of excess demand, $\mathcal{D}/\mathcal{S}-1$ (where $\mathcal{D}$ and $\mathcal{S}$ are demand and supply), then the distribution has tail behavior $F\left( x\right) \sim x^{-\zeta}$ for a power $\zeta$ that depends on the function $G$ in $P^{-1}dP/dt=G\left( \mathcal{D}/\mathcal{S}\right) $. For $G\left( x\right) \sim\left\vert x\right\vert ^{1/q}$ one has $\zeta=q.$ The value, $q\in\left[ 3,5\right] $ is in agreement with empirical data.

While many theoretical explanations have been offered for the paradox of fat tails, we show that this issue never arises if one models price dynamics using basic economics methodology, rather than the usual starting point for classical finance which assumes a normal distribution of price changes. The function, $G,$ can be calibrated in the absence of rare events. The results establish a simple link between the decay exponent of the density function and the price adjustment function, a feature that can improve methodology for risk assessment.

Financial Literacy and Intertemporal Arbitrage
Oberrauch, Luis,Kaiser, Tim
We study the role of financial literacy for inter-temporal decision-making using an adapted version of the Convex Time Budget Protocol (Andreoni and Sprenger 2012). While we find no evidence of dynamically inconsistent preferences in the aggregate, we document substantial heterogeneity in choice-patterns and estimated parameters at the individual-level: We find that subjects with higher levels of financial literacy are more likely to make patient inter-temporal choices, to allocate the entire budget to a single payment-date, allocate the entire budget to corner choices as interest rates increase, and to show individual discount factors which are in line with extra-experimental market rates. At the same time, financial literacy is uncorrelated with choice consistency and estimated individual error parameters. These results serve as suggestive evidence for inter-temporal arbitrage among financially literate respondents, thereby revealing a potential confound in time-preference elicitation tasks relying on time-dated monetary rewards.

Firm Leverage and Wealth Inequality
Bakota, Ivo
This paper studies the effects of a change in firm leverage on wealth inequality and macroeconomic aggregates. The question is studied in a general equilibrium model with a continuum of heterogeneous agents, life-cycle, incomplete markets, and idiosyncratic and aggregate risk. The analysis focuses on the particular change in firm leverage that occurred in the U.S. during the 1980s, when firm leverage increased significantly, and subsequently has been dropping since the early 1990s. In the benchmark model, an increase in firm leverage of the size that occurred during the 1980s increases capital accumulation by 5.38%, decreases wealth inequality by 1.07 Gini points and decreases government revenues by 0.11% of output. An increase in firm leverage increases average after-tax returns on savings, as firm debt has beneficial tax treatment. This increases the saving rates of all households, and disproportionately increases the saving rates of relatively poorer households. Consequently, the model implies that the increase in firm leverage did not contribute to rising inequality in the U.S. in the 1980s, but rather the opposite; that the reduction in leverage from the early 1990s to 2008 has contributed to rising wealth inequality. Furthermore, I show that if the model abstracts from beneficial tax treatment of corporate debt, the change in leverage has only minor effects on macro aggregates and inequality, despite having significant implications for asset prices. This is consistent with the previous result in the literature showing that the Modigliani-Miller theorem approximately holds in the heterogeneous agents model with imperfect markets.

Forward Looking Loan Provisions: Credit Supply and Risk-Taking
Morais, Bernardo,Ormazabal, Gaizka,Peydró, José-Luis,Roa, Monica,Sarmiento, Miguel
We show corporate-level real, financial, and (bank) risk-taking effects associated with calculating loan provisions based on expectedâ€"rather than incurredâ€"credit losses. For identification, we exploit unique features of a Colombian reform and supervisory, matched loan-level data. The regulatory change induces a dramatic increase in provisions. Banks tighten all new lending conditions, adversely affecting borrowing-firms, with stronger effects for risky-firms. Moreover, to minimize provisioning, more affected (less-capitalized) banks cut credit supply to risky-firmsâ€" SMEs with shorter credit history, less tangible assets or more defaulted loansâ€"but engage in “search-for-yield” within regulatory constraints and increase portfolio concentration, thereby decreasing risk diversification.

Generalized Filtrations and Its Application to Binomial Asset Pricing Models
Takanori Adachi,Katsushi Nakajima,Yoshihiro Ryu

We introduce generalized filtration with which we can represent situations such as some agents forget information at some specific time. The filtration is defined as a functor to a category Prob whose objects are all probability spaces and whose arrows correspond to measurable functions satisfying an absolutely continuous requirement [Adachi and Ryu, 2019]. As an application of a generalized filtration, we develop a binomial asset pricing model, and investigate the valuations of financial claims along this type of non-standard filtrations.

In the Long Run We Are All Herd: On the Nature and Outcomes of the Beauty Contest
Esposito, Lorenzo,Mastromatteo, Giuseppe
Since the 2008 crisis, the economics literature has shown a renewed interest in Keynes’s “beauty contest” (BC) as a fundamental aspect of the functioning of financial markets. We argue that to understand the importance of the BC, psychological and informational factors are of small importance, and a dynamic-structural approach should be followed instead: the BC framework is paramount because it is rooted in the historical trajectory of capitalism and it is not simply a consequence of “irrational” (i.e., biased) agents. In this genuine form, the BC mechanism allows one to understand the main trends of a financialized world. Moreover, the conventional nature of financial markets provides a sound method for assessing different economic policies whose effectiveness depends on how much they can influence the convention itself. This alternative understanding of the BC can be used to start the needed rethinking of economics, urged by the crisis, that is for now reduced to studying the financial and psychological “imperfections” of the market.

In the Long Run We Are All Herd: On the Nature and Outcomes of the Beauty Contest
Esposito, Lorenzo,Mastromatteo, Giuseppe
Since the 2008 crisis, the economics literature has shown a renewed interest in Keynes’s “beauty contest” (BC) as a fundamental aspect of the functioning of financial markets. We argue that to understand the importance of the BC, psychological and informational factors are of small importance, and a dynamic-structural approach should be followed instead: the BC framework is paramount because it is rooted in the historical trajectory of capitalism and it is not simply a consequence of “irrational” (i.e., biased) agents. In this genuine form, the BC mechanism allows one to understand the main trends of a financialized world. Moreover, the conventional nature of financial markets provides a sound method for assessing different economic policies whose effectiveness depends on how much they can influence the convention itself. This alternative understanding of the BC can be used to start the needed rethinking of economics, urged by the crisis, that is for now reduced to studying the financial and psychological “imperfections” of the market.

Institutional Quality Causes Social Trust: Evidence from Survey and Experimental Data on Trusting Under the Shadow of Doubt
Martinangeli, Andrea FM,Povitkina, Marina,Jagers, Sverker C.,Rothstein, Bo
Social trust is a crucial ingredient for successful collective action. What causes social trust to develop, however, remains poorly understood. The quality of political institutions has been proposed as a candidate driver and has been shown to correlate with social trust. We show that this relationship is causal. We begin by documenting a positive correlation between quality of institutions, measured by embezzlement, and social trust using survey data. We then take the investigation to the laboratory: We first exogenously expose subjects to different levels of institutional quality in an environment mimicking public administration embezzlement. We then measure social trust among the participants using a trust game. Coherent with our survey evidence, individuals exposed to low institutional quality trust significantly less.

Knockin’ on the Bank’s Door: Why is Self-Employment Going Down?
Malkova, Alina
This study analyzes a decline in the ability to obtain financing as a potential explanation for the observed decrease in the U.S. self-employment. The shrinking of the U.S. bank branch network since 2010 and the increased average borrower-lender distance reduce the accessibility of credit institutions for borrowers. To evaluate the impact of the CMA on entry into self-employment, I disaggregate the self-employed into two categories: entrepreneurs whose businesses depend on business loans (incorporated self-employed) and other self-employed (unincorporated self-employed). Using a novel data source (the Community Advantage Panel Survey database), I find that the proximity of credit market institutions has heterogeneous effects on the transition to self-employment. An improvement in the CMA increases the likelihood of transition to incorporated self-employment. But for the unincorporated self-employed, the effect is the opposite: the probability of transition to unincorporated self-employment decreases, and workers of this type are more likely to switch to paid employment to be able to receive non-business related loans. The paper discusses the implications of these results for different policies.

Managerial Aversion and Capital Structure: Evidence from Southeast Asia
Adeneye, Yusuf,Chu, Ei Yet
This paper investigates the associations between managerial aversion, capital structure, and market valuation. The paper outlines managerial risk aversion and managerial regret aversion as perceptions of managerial aversion and tests whether both managerial behaviors directly affect the capital structure and market valuation of firms. The study uses a comprehensive measure of risk aversion by considering risk frequency, risk severity, and risk reduction price on shareholders’ equity. Using a data set of 860 Southeast Asian firms from 2007 to 2018, the study finds that managerial regret aversion affects market valuation and capital structure in market-based economies. Managerial risk aversion affects market valuation in both bank and market-based economies. Contrary to our hypothesis, managerial risk aversion has no significant effect on capital structure among Southeast Asian firms. The paper concludes that capital market undervaluation, leading to managerial aversion, has theoretical implications for the regret theory of capital structure.

Marketing resource allocation in duopolies over social networks
Vineeth S. Varma,Irinel-Constantin Morarescu,Samson Lasaulce,Samuel Martin

One of the key features of this paper is that the agents' opinion of a social network is assumed to be not only influenced by the other agents but also by two marketers in competition. One of our contributions is to propose a pragmatic game-theoretical formulation of the problem and to conduct the complete corresponding equilibrium analysis (existence, uniqueness, dynamic characterization, and determination). Our analysis provides practical insights to know how a marketer should exploit its knowledge about the social network to allocate its marketing or advertising budget among the agents (who are the consumers). By providing relevant definitions for the agent influence power (AIP) and the gain of targeting (GoT), the benefit of using a smart budget allocation policy instead of a uniform one is assessed and operating conditions under which it is potentially high are identified.

Marxism, Logic and the Rate of Profit
Robin Hirsch

It is argued that Marxism, being based on contradictions, is an illogical method. More specifically, we present a rejection of Marx's thesis that the rate of profit has a long-term tendency to fall.

Mean-Variance Portfolio Management with Functional Optimization
Ka Wai Tsang,Zhaoyi He

This paper introduces a new functional optimization approach to portfolio optimization problems by treating the unknown weight vector as a function of past values instead of treating them as fixed unknown coefficients in the majority of studies. We first show that the optimal solution, in general, is not a constant function. We give the optimal conditions for a vector function to be the solution, and hence give the conditions for a plug-in solution (replacing the unknown mean and variance by certain estimates based on past values) to be optimal. After showing that the plug-in solutions are sub-optimal in general, we propose gradient-ascent algorithms to solve the functional optimization for mean-variance portfolio management with theorems for convergence provided. Simulations and empirical studies show that our approach can perform significantly better than the plug-in approach.

Military Managers and Earnings Management
Lai, Li,Tian, Hanyi,Wang, Zhi,Yu, Frank
In an environment where the major governance issue is the conflict between majority and minority shareholders, how does previous military experience affect corporate managers’ behavior in earnings management? Using a sample of listed Chinese firms, we find that managers with military experience are associated with higher levels of earnings management, through both accrual-based and real-activities manipulations. Firms run by military managers are more susceptible to financial restatements, qualified audit opinions, and related penalties. To alleviate endogeneity problems, we use both the instrumental variable regression and a propensity score matching approach, and our results are robust. In addition, the effect of military managers is more pronounced in state-owned firms and firms with weak internal control systems. These findings improve our understanding of the link between managerial traits and corporate financial reporting decisions.

Momentum, Reversal, and Seasonality in Option Returns
Jones, Christopher S.,Khorram, Mehdi,Mo, Haitao
Option returns display substantial momentum using formation periods rangingfrom 6 to 36 months long, with long/short portfolios obtaining annualized Sharperatios above 1.5. In the short term, option returns exhibit reversal. Options alsoshow marked seasonality at multiples of three and 12 monthly lags. All of theseresults are highly significant and stable in the cross section and over time. Theyremain strong after controlling for other characteristics, and momentum andseasonality survive factor risk-adjustment. Momentum is mainly explained byan underreaction to past volatility and other shocks, while seasonality reflectsunpriced seasonal variation in stock return volatility.

Option Pricing Incorporating Factor Dynamics in Complete Markets
Yuan Hu,Abootaleb Shirvani,W. Brent Lindquist,Frank J. Fabozzi,Svetlozar T. Rachev

Using the Donsker-Prokhorov invariance principle we extend the Kim-Stoyanov-Rachev-Fabozzi option pricing model to allow for variably-spaced trading instances, an important consideration for short-sellers of options. Applying the Cherny-Shiryaev-Yor invariance principles, we formulate a new binomial path-dependent pricing model for discrete- and continuous-time complete markets where the stock price dynamics depends on the log-return dynamics of a market influencing factor. In the discrete case, we extend the results of this new approach to a financial market with informed traders employing a statistical arbitrage strategy involving trading of forward contracts. Our findings are illustrated with numerical examples employing US financial market data. Our work provides further support for the conclusion that any option pricing model must preserve valuable information on the instantaneous mean log-return, the probability of the stock's upturn movement (per trading interval), and other market microstructure features.

Predatory Pricing and the Value of Corporate Cash Holdings
Lavrutich, Maria,Thijssen, Jacco
We analyze the interaction between firms' payout policies and their decisions in product markets in a continuous-time stochastic game between two firms. One of these is financially constrained, whereas the other is not. Contrary to the standard literature we allow firms to choose production and payout strategies, and focus on the effect of predation incentives on both. We find that predation induces fewer dividend payouts. Furthermore, the liquidity position of the constrained firm has an economically significant effect on the production choices of both firms and, thus, on the evolution of profits, cash holdings and stock returns.

Price Discovery in the U.S. Treasury Cash Market: On Principal Trading Firms and Dealers
Harkrader, James,Puglia, Michael
We explore the following question: does the trading activity of registered dealers on Treasury interdealer broker (IDB) platforms differ from that of principal trading firms (PTFs), and if so, how and to what effect on market liquidity? To do so, we use a novel dataset that combines Treasury cash transaction reports from FINRA's Trade Reporting and Compliance Engine (TRACE) and publicly available limit order book data from BrokerTec. We find that trades conducted in a limit order book setting have high permanent price impact when a PTF is the passive party, playing the role of liquidity provider. Conversely, we find that dealer trades have higher price impact when the dealer is the aggressive party, playing the role of liquidity taker. Trades in which multiple firms (whether dealers or PTFs) participate on one or both sides, however, have relatively low price impact. We interpret these results in light of theoretical models suggesting that traders with only a "small" informational advantage prefer to use (passive) limit orders, while traders with a comparatively large informational advantage prefer to use (aggressive) market orders. We also analyze the events that occurred in Treasury markets in March 2020, during the onset of the COVID-19 pandemic.

Public Disclosure of Private Meetings: Does Transparency of Corporate Site Visits Affect Analysts’ Attention Allocation?
Ru, Yi,Zheng, Ronghuo,Zou, Yuan
We investigate the consequences of increased transparency of corporate site visits on financial analysts’ attention allocation. Using the timely disclosure requirement by the Shenzhen Stock Exchange in China since July 2012 as a setting, we find that non-visiting analysts reduce attention allocated to visited firms relative to non-visited firms. This result is consistent with the conjecture that such transparency reveals the information advantage of visiting analysts relative to non-visiting analysts, who then reallocate attention across different firms. Cross-sectional analyses suggest that the effects are more pronounced when the information advantage is larger. Further evidence suggests that such transparency has positive spillover effects on peer firms’ informational efficiency by influencing analysts’ attention allocation. Thus, firms collectively can benefit from this disclosure requirement due to the positive spillover effects.

Raising the Bar: Principles-Based Guidance for Board Risk Committees and Risk Functions in the UK Financial Services Sector
Barma, Hanif,Burt, Chris
The Risk Coalition, a newly created association of the UK’s leading professional membership bodies, has produced principles-based guidance aimed at improving risk governance and oversight in the UK financial services sector. Raising the Bar will provide boards, investors, regulators, ratings agencies, Skilled Persons firms and other stakeholders with a commonly agreed benchmark for “what good looks like” â€" something not previously available in one place.“Nothing like this currently exists in Europe.” Martin Stewart, former Director of Banking and Building Society Supervision, Prudential Regulation Authority.The Risk Coalition’s aims in producing Raising the Bar are to close major gaps in risk governance and oversight, initially in the UK financial services sector, through:establishing a common understanding of the purpose, role and activities of the board risk committee and risk function; providing a benchmark against which board risk committees and risk functions can be assessed objectively; raising the general standard of risk governance and oversight practice within UK financial services; filling the gap in principles-based good practice risk guidance whilst recognizing the presence of detailed regulation. Raising the Bar’s focus on alignment of organisation purpose, strategy, objectives and risk should lead to the repositioning of the board risk committee as the pre-eminent board committee with a direct influence on overall business performance.Moreover, the Risk Coalition expects that Raising the Bar will encourage increased use of board risk committees, beyond financial services, through clarification of their purpose and ability to add value. Effective risk governance is crucial to sustainability and viability.“We welcome the Risk Coalition’s initiative to raise standards in risk oversight in UK financial services. Their approach and guidance complements the personal accountability we regard as an important regulatory objective.” Financial Conduct Authority“We welcome the initiative and particularly support your emphasis on improving standards of accountability of the Board and its committees on risk.” Financial Reporting Council.

Selective Learning and Price Over- and Under-Reaction
Gertsman, Gleb
In this paper I propose a new model that explains simultaneously over- and under-reaction of prices to information. My model incorporates a behavioral investor which selectively chooses whether to incorporate information. I show that a market, in which some of the agents are behavioral, exhibits both over- and under-reaction. My model predicts that over- and under-reaction are related to the extremity of the signal and the prior variance of beliefs of the behavioral agent. These predictions are unique to my model and do not exist in competing theories. I find evidence in support of these predictions.

Simplifying Complex Disclosures: Evidence from Disclosure Regulation in the Mortgage Markets
Kielty, Patrick,Wang, K. Philip,Weng, Diana
Complex disclosures have been recognized as a major source of borrowers’ poor understanding of mortgages. We examine the effect of simplifying mortgage disclosures on loan outcomes in a difference-in-differences design by exploiting a significant regulatory change of mortgage disclosures in 2015. Using loan-level data from Fannie Mae and Freddie Mac, we find that inexperienced borrowers pay significantly lower interest rates after the disclosure regulation relative to experienced borrowers, suggesting that simplifying these disclosures reduces borrowing costs. In addition, we find that the effect of disclosure simplification is stronger for loans originated by lenders disciplined by regulators and for loans originated in states with more registered originators, suggesting that simplifying disclosures lowers borrowing costs by curbing predatory lending and facilitating borrower shopping. We further find that disadvantaged borrowers benefit more from simplified disclosures. Last, we do not find that simplifying disclosures affects loan performance.

Space-time budget allocation policy design for viral marketing
I. C. Morarescu,V.S. Varma,L. Busoniu,S. Lasaulce

We address formally the problem of opinion dynamics when the agents of a social network (e.g., consumers) are not only influenced by their neighbors but also by an external influential entity referred to as a marketer. The influential entity tries to sway the overall opinion as close as possible to a desired opinion by using a specific influence budget. We assume that the exogenous influences of the entity happen during discrete-time advertising campaigns; consequently, the overall closed-loop opinion dynamics becomes a linear-impulsive (hybrid) one. The main technical issue addressed is finding how the marketer should allocate its budget over time (through marketing campaigns) and over space (among the agents) such that the agents' opinion be as close as possible to the desired opinion. Our main results show that the marketer has to prioritize certain agents over others based on their initial condition, their influence power in the social graph and the size of the cluster they belong to. The corresponding space-time allocation problem is formulated and solved for several special cases of practical interest. Valuable insights can be extracted from our analysis. For instance, for most cases, we prove that the marketer has an interest in investing most of its budget at the beginning of the process and that budget should be shared among agents according to the famous water-filling allocation rule. Numerical examples illustrate the analysis.

Spike Modeling for Interest Rate Derivatives with an Application to SOFR Caplets
Andersen, Leif B. G.,Bang, Dominique R. A.
With the forthcoming introduction of SOFR benchmark rates in the US, market participants will need to adjust their interest rate option models to accommodate a variety of idiosyncrasies of the SOFR rate. The materiality of these changes for quoted options level is currently unknown, and will depend on market sentiment (as expressed in market risk premia, say), regulatory policies, and the rate fixing conventions ultimately available in the market. While we wait for liquidity in SOFR options to build, this paper pre-emptively considers two important characteristics of SOFR derivatives: the backward-looking settlement style of SOFR floating rate payments; and the “jagged” nature of SOFR evolution through time. The latter originates with liquidity conditions in the repo financing markets from which SOFR is constructed, where temporary demand-supply imbalances can result in the formation of short-term spikes of substantial magnitude. We construct a variety of mechanisms that allows us to build rich stochastic models for both “surprising” and anticipated (e.g., year-end) spikes, and demonstrate how to modify existing (smooth) term structure models to capture them. To accommodate high-efficiency pricing of vanilla derivatives in top-down models, we also develop several convenient numerical techniques that allow for effcient pricing of these structures. For instance, a novel scheme merges existing spike-free pricing formulas with a given spike characteristic function in a custom low-dimensional quadrature routine, enabling us to spike-enable standard valuation models (such as SABR) at minimal computational effort. Using SOFR-style caplets for illustration, we numerically demonstrate that the effect of spikes on implied caplet volatility levels and skews can be substantial, even at modest levels of risk premia in the spike model parameters. Besides being useful for the pricing of SOFR derivatives, our paper more broadly establishes a complete mathematical framework for rate spikes, applicable to pricing, scenario generation, and risk management in any rates market where spike phenomena exist.

Static Hedging of Weather and Price Risks in Electricity Markets
Javier Pantoja Robayo,Juan C. Vera

We present the closed-form solution to the problem of hedging price and quantity risks for energy retailers (ER), using financial instruments based on electricity price and weather indexes. Our model considers an ER who is intermediary in a regulated electricity market. ERs buy a fixed quantity of electricity at a variable cost and must serve a variable demand at a fixed cost. Thus ERs are subject to both price and quantity risks. To hedge such risks, an ER could construct a portfolio of financial instruments based on price and weather indexes. We construct the closed form solution for the optimal portfolio for the mean-Var model in the discrete setting. Our model does not make any distributional assumption.

Statistical Inference for Generalized Additive Partially Linear Model
Liu, Rong,Härdle, Wolfgang K.,Zhang, Guoiy
The class of Generalized Additive Models (GAMs) is a powerful tool which has been well studied. It helps to identify additive regression structure that can be determined even more sharply via test procedures when some component functions have a parametric form. Generalized Additive Partially Linear Models (GAPLMs) enjoy the simplicity of GLMs and the flexibility of GAMs because they combine both parametric and non-parametric components. We use the hybrid spline-back-fitted kernel estimation method, which combines the best features of both spline and kernel methods, to make fast, efficient and reliable estimation under an -mixing condition. In addition, simultaneous confidence corridors (SCCs) for testing overall trends and empirical likelihood confidence regions for parameters are provided under an independence condition. The asymptotic properties are obtained and simulation results support the theoretical properties. As an illustration, we use GAPLM methodology to improve the accuracy ratio of the default predictions for 19,610 German companies. The quantlet for this paper are available on

Technology Adoption, Household Uncertainty and Wealth Inequality
Bhardwaj, Abhishek,Mukherjee, Saptarshi
This article examines the portfolio choice of workers that face differential exposure to technology-driven displacement. Using an exogenous policy shock that incentivized the firms to invest in technology, we show that the routine workers respond to heightened displacement risk by reducing the share of liquid wealth invested in equities. This effect is independent of the well-documented wealth effect and is weaker in presence of self or government-sponsored insurance. We show that the conservative portfolio choice of routine households lowers their return on liquid wealth and our simulations show that, ceteris paribus, the reported changes in portfolio composition can lead to a return-on-wealth differential of 30% over a 10-year period.

The Dark Side of Investor Conferences: Evidence of Managerial Opportunism
Bushee, Brian J.,Taylor, Daniel J.,Zhu, Christina
While the shareholder benefits of investor conferences are well-documented, evidence on whether these conferences facilitate managerial opportunism is scarce. In this paper, we examine whether managers opportunistically exploit heightened attention around the conference to "hype" the stock. Consistent with hype, we find that managers increase the quantity of voluntary disclosure over the ten days prior to the conference, and that these disclosures increase prices to a greater extent than post-conference disclosures. Investigating managers’ incentives for pre-conference disclosure, we find that the increase in pre-conference disclosure is more pronounced when insiders sell their shares immediately prior to the conference. In those circumstances where pre-conference disclosures coincide with pre-conference insider selling, we find evidence of a significant return reversal: large positive returns before the conference, and large negative returns after the conference. Collectively, our findings are consistent with some managers hyping the stock prior to the conference and selling their shares at inflated prices.

The Impact of Political Connection and Risk Committee on Corporate financial Performance: Evidence from financial firms in Malaysia
Al-dhamari, Redhwan
Purpose â€" This study aims to examine the association between the effectiveness of risk committee (RC) and firms’ performance in Malaysian context. It also explores whether political connection has an impact on the relationship.Design/methodology/approach â€" This study, using a principle components analysis, derives a factor score for RC attributes to proxy the effectiveness of RC. It also uses both accounting and market performance to measure the company performance.Findings â€" Using a sample of financial firms from 2004 to 2018, this study finds that both accounting and market performance are higher for firms with an effective RC. It also finds that the effectiveness of RC in monitoring and management of risks is more pronounced for politically connected firms (PCFs). In further tests, the paper finds that RC attributes (i.e. RC independence, qualification and gender) are positively and significantly associated with accounting performance, while those of RC existence and overlap are positively and significantly related to market performance. The study also finds that RC size (RC diligence) has a positive (negative) impact on financial firms accounting and market performance. The further analysis also shows that PCFs with a separate as well as larger RCs experience both higher accounting and market performance. This study’s results are robust for concerns of endogeneity.Practical implications â€" The findings of this study resolve the ongoing debates surrounding political connection by suggesting financial firms not to have politically connected board members as doing so may deteriorate their performance. This study’s results are also useful for investors, regulators and policymakers.Originality/value â€" To the best of the authors’ knowledge, this study, for the first time, introduces on the interaction term between the effectiveness of RCs and political connection to empirically explore how an effective RC may reduce the potential risk of political ties. As such, this study adds to the literature and sheds light on an aspect of risk (i.e. risk stems from establishing close link with the government) that is growing in importance.

The Missing Link Between Home Bias and Investor Sentiment: Evidence from a Quasi-experimental Financial Market
Andrikogiannopoulou, Angie,Papakonstantinou, Filippos
It is well known that investors disproportionately invest in "home'' assets. Yet, there is much debate on whether superior information or sentiment drives this behavior. Using the sports-betting market as a financial-market laboratory, we find that individuals exhibit a bias toward home-team wagers. This bias does not yield superior performance, but distorts individuals' portfolios, resulting in welfare costs of similar magnitude as in the stock market. Our findings confirm a key yet hitherto-untested assumption underlying the behavioral explanation of home bias in finance: that a cognitive home bias is strong enough to persist in market settings and survive costly implications.

The Real Side of Financial Distress
Avramov, Doron,Chordia, Tarun,Jostova, Gergana,Philipov, Alexander
The credit risk puzzle, wherein high credit risk assets earn lower returns than their low credit risk counterparts, is driven by investors' slow reaction to the adverse real effects of financial distress. Evidence from stocks and corporate bonds challenges explanations based on shareholders' ability to extract value from bondholders during bankruptcy, conditional risk-based asset pricing models, or lottery-type preferences. Customers, suppliers, investors, and creditors distance themselves from distressed firms. Distressed firms experience deteriorating fundamentals and, in turn, reduce advertising, capital expenditures, and R&D, thereby further hampering future profitability and growth prospects.

The Smooth Double Pareto Distribution: A Model of Private Equity Fund Returns
Lahr, Henry
Whether returns of venture capital and private equity investments exhibit fat tails, particularly in the upper tail, affects how entrepreneurs and investors view the attractiveness of such investments. Using fund performance data, we propose and test a random growth model with a random initial valuation of funds to explain the observed distribution of funds’ residual-value and payout multiples. This model endogenously generates power-law tails in the cross-section from a log-normally distributed diffusion process and log-normally distributed birth valuation. We find that the resulting smooth double Pareto distribution fits the data better than competing log-normal or double Pareto models and generally performs well, apart from a small region around a valuation multiple of one. The divergence of the fitted distribution from the empirical one can be explained by an excess number of funds without distributions to investors â€" funds that may not have made or revalued any investments yet.

The Value of a Cure: An Asset Pricing Perspective
Acharya, Viral V.,Johnson, Timothy C.,Sundaresan, Suresh M.,Zheng, Steven
We provide an estimate of the value of a cure using the joint behavior of stock prices and a vaccine progress indicator during the ongoing COVID-19 pandemic. Our indicator is based on the chronology of stage-by-stage progress of individual vaccines and related news. We construct a general equilibrium regime-switching model of repeated pandemics and stages of vaccine progress wherein the representative agent withdraws labor and alters consumption endogenously to mitigate health risk. The value of a cure in the resulting asset-pricing framework is intimately linked to the relative labor supply across states. The observed stock market response to vaccine progress serves to identify this quantity, allowing us to use the model to estimate the economy-wide welfare gain that would be attributable to a cure. In our estimation, and with standard preference parameters, the value of the ability to end the pandemic is worth 5-15% of total wealth. This value rises substantially when there is uncertainty about the frequency and duration of pandemics. Agents place almost as much value on the ability to resolve the uncertainty as they do on the value of the cure itself. This effect is stronger â€" not weaker â€" when agents have a preference for later resolution of uncertainty. The policy implication is that understanding the fundamental biological and social determinants of future pandemics may be as important as resolving the immediate crisis.

The public debt multiplier
Alice Albonico,Guido Ascari,Alessandro Gobbi

We study the effects on economic activity of a pure temporary change in government debt and the relationship between the debt multiplier and the level of debt in an overlapping generations framework. The debt multiplier is positive but quite small during normal times while it is much larger during crises. Moreover, it increases with the steady state level of debt. Hence, the call for fiscal consolidation during recessions seems ill-advised. Finally, a rise in the steady state debt-to-GDP level increases the steady state real interest rate providing more room for manoeuvre to monetary policy to fight deflationary shocks.

To Act or not to Act? Political competition in the presence of a threat
Arthur Fishman,Doron Klunover

We present a model of political competition in which an incumbent politician, may implement a costly policy to prevent a possible threat to, for example, national security or a natural disaster.

What If the New Normal Included Using Payment Data to Support Under-Documented Firms?: A Central Bank Experience During COVID-19
Reiss, Daniel Gersten,, João Manoel Pinho de Mello
Obtaining credit by micro, small, and medium-sized enterprises (MSME) is typically hampered by a lack of supporting documents. Here, we report the use of payment oversight data to fill up this gap during COVID-19 countermeasures and suggest that central banks' supervisory information may help achieve competition or inclusiveness goals.

半均衡定价: CAPM 公式å'Œ SDF 定价 (Semi-Equilibrium Pricing: CAPM Formula and SDF Pricing)
Chen, Deng-Ta
Chinese abstract: 半均衡定价通过投资者的最优证券组合直接寻求基本证券价格,对æ¯"均衡定价,半均衡定价缺å°'了市场出清条件求解均衡价格的步骤。将 CAPM 公式å½"成均衡定价是é"™è¯¯çš„,因为 CAPM 公式只是最优证券组合与市场组合为同一组合的等价表述,其中市场组合的总价值是自ç"±å˜é‡ï¼Œæ•… CAPM 公式成立时不能确保市场出清,CAPM 公式是半均衡定价。此外,æˆ'们求解出 SDF 模仿æ"¯ä»˜çš„显式解,并通过它证明了 CAPM 市场中模仿æ"¯ä»˜ä¸Žå¸‚场贝å¡"的等价性,佐证了 SDF 定价也是半均衡定价。English abstract: Semi-equilibrium pricing seeks the prices of primitive securities directly through the investor's optimal portfolio of primitive securities. Compared with equilibrium pricing, semi-equilibrium pricing lacks the very step of solving equilibrium price under market clearing conditions. It is not correct to regard the CAPM formula as an equilibrium pricing formula, because the CAPM formula is only an equivalent expression that each investor's optimal portfolio and the market portfolio are the same portfolio, in which the total value of the market portfolio is a free variable, so the establishing of CAPM formula cannot ensure market clearing. Thus, the CAPM formula is a semi-equilibrium pricing. In addition, we find out the explicit solution of the mimicking payoff, by which we prove the equivalence of mimicking payoff and market beta in the CAPM market. Which confirms that SDF pricing is also a semi-equilibrium pricing.