Research articles for the 2021-03-10

A Bayesian Graphical Approach for Large-Scale Portfolio Management with Fewer Historical Data
Sakae Oya

Managing a large-scale portfolio with many assets is one of the most challenging tasks in the field of finance. It is partly because estimation of either covariance or precision matrix of asset returns tends to be unstable or even infeasible when the number of assets $p$ exceeds the number of observations $n$. For this reason, most of the previous studies on portfolio management have focused on the case of $p < n$. To deal with the case of $p > n$, we propose to use a new Bayesian framework based on adaptive graphical LASSO for estimating the precision matrix of asset returns in a large-scale portfolio. Unlike the previous studies on graphical LASSO in the literature, our approach utilizes a Bayesian estimation method for the precision matrix proposed by Oya and Nakatsuma (2020) so that the positive definiteness of the precision matrix should be always guaranteed. As an empirical application, we construct the global minimum variance portfolio of $p=100$ for various values of $n$ with the proposed approach as well as the non-Bayesian graphical LASSO approach, and compare their out-of-sample performance with the equal weight portfolio as the benchmark. In this comparison, the proposed approach produces more stable results than the non-Bayesian approach in terms of Sharpe ratio, portfolio composition and turnover. Furthermore, the proposed approach succeeds in estimating the precision matrix even if $n$ is much smaller than $p$ and the non-Bayesian approach fails to do so.

A Key Rate Approach to Replicating Annuities with U.S. Treasury Funds
Prendergast, Joseph
Prendergast (2021) develops a methodology that enables retail investors to structure annuities using commonly available U.S. Treasury Exchange Traded Funds (ETFs). This paper extends that methodology through the use of key rate durations. Back tests and stress tests show that the use of key rate durations substantially enhances the ability of the portfolio of ETFs to replicate an annuity in an environment where yield curves undergo a variety of slope and curvature changes over time.

A New Feudalism: Selfish Genes, Great Wealth and the Rise of the Dynastic Family Trust
Kades, Eric A.
Today’s record levels of economic inequality are infecting our future as the top 0.01% bequest vast wealth to their descendants. With the death of the Rule Against Perpetuities (RAP), this inequality has the potential to harden social class lines not just for a generation or two but forever. Although it may sound implausible, interviews with estate lawyers serving very high net worth clients reveal that some of the wealthiest tier of testators are already exploiting the RAP’s elimination, along with a tax loophole, to establish dynasty trusts that will financially empower their bloodline as long as it continues. Evolutionary biologists will not be surprised by this finding. Recent work in their field shows a universal and powerful human drive for high status descendants â€" a drive for “quality” progeny so powerful that it appears to trump the usual desire to maximize quantity of offspring. Coupled with the long history of dynastic family wealth in England, this science suggests that today’s wealthiest testators will utilize powerful modern legal institutions (e.g. well-developed laws of contract and trust; deep and efficient capital markets) to forge a new sort of trust that I dub a Dynastic Family Trusts (DFT). These DFTs will be larded with innovative provisions leveraging a founder’s wealth to maximize descendants’ status for generation after generation. For those fearing the pernicious effects of concentrated wealth on democracy and equal opportunity, the rise of the DFT is alarming. Fortunately there is a very easy fix: simply reinstate the Rule Against Perpetuities. Given a race-to-the-bottom dynamic among the states, national legislation from Congress is necessary.

A Repo Model of Fire Sales with VWAP and LOB Pricing Mechanisms
Maxim Bichuch,Zachary Feinstein

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 the existence of maximal and minimal clearing solutions (i.e., liquidations, borrowing, fire sale prices, and haircut levels) as well as sufficient conditions for uniqueness of the clearing solutions.

A Universal Basic Income For Brazil: Fiscal and Distributional Effects of Alternative Schemes
Rozane Bezerra de Siqueira,Jose Ricardo Bezerra Nogueira

The outbreak of the Covid-19 pandemic has led to an increasing interest in Universal Basic Income (UBI) proposals as it exposed the inadequacy of traditional welfare systems to provide basic financial security to a large share of the population. In this paper, we use a static tax-benefit microsimulation model to analyse the fiscal and distributional effects of the hypothetical implementation in Brazil of alternative UBI schemes which partially replace the existing tax-transfer system. The results indicate that the introduction of a UBI/Flat Tax sytem in the country could be both extremely effective in reducing poverty and inequality and economically viable.

Aproximación Al Espacio Controlado De Pruebas ((Regulatory Sandbox) Commentary on Spanish Regulatory Sandbox Act)
Zunzunegui, Fernando
Spanish Abstract: El presente artículo analiza la Ley 7/2020, de 13 de noviembre, para la transformación digital del sistema financiero, por la cual se incorpora un espacio contado de pruebas para proyectos Fintech (Regulatory Sandbox) al Derecho español. Se estudian los antecedentes destacando el consenso en su aprobación. Es un mecanismo que combina el espacio de pruebas con los foros de innovación bajo los principios de proporcionalidad y neutralidad tecnológica, con el fin de garantizar la seguridad jurídica en un mercado abierto a la leal concurrencia. Sigue los modelos anglosajones, con selección de proyectos y seguimiento por parte de las autoridades financieras. Tras analizar su contenido se hacen algunas propuestas para aprovechar este experimento regulatorio.English Abstract: This paper analyses the Spanish Regulatory Sandbox Act of November 13, 2020, highlighting the consensus in their approval. It is a mechanism that combines the Sandbox with the Innovation Hubs under the principles of proportionality and technological neutrality, in order to guarantee legal certainty in a market open to fair competition. It follows the Anglo-Saxon models (FCA-Sandbox style), with project selection and monitoring by the financial authorities. After analysing its content, some proposals are made to take advantage of this regulatory experiment.

Bayesian optimal investment and reinsurance with dependent financial and insurance risks
Nicole Bäuerle,Gregor Leimcke

Major events like natural catastrophes or the COVID-19 crisis have impact both on the financial market and on claim arrival intensities and claim sizes of insurers. Thus, when optimal investment and reinsurance strategies have to be determined it is important to consider models which reflect this dependence. In this paper we make a proposal how to generate dependence between the financial market and claim sizes in times of crisis and determine via a stochastic control approach an optimal investment and reinsurance strategy which maximizes the expected exponential utility of terminal wealth. Moreover, we also allow that the claim size distribution may be learned in the model. We give comparisons and bounds on the optimal strategy using simple models. What turns out to be very surprising is that numerical results indicate that even a minimal dependence which is created in this model has a huge impact on the control in the sense that the insurer is much more prudent then.

CSR Compensation Contract and CSR Ratings
Li, Zhichuan Frank,Wang, Jun,Zhao, Yuqing
We examine executive compensation contracts that are directly and explicitly linked to corporate social performance. In particular, we study two types of such contracts, subjective and objective, and the CSR-related variables on which compensation is contracted. We attempt to find which type and underlying CSR variables can most effectively improve CSR ratings. Our results suggest that for objective contracts and subjective contracts, the best performing variables are ethical conduct and social responsibility, respectively. In addition, we study how CSR ratings affect firm performance and risk, and how CSR contracts moderate the effects. We find that both large and small firms with high CSR ratings tend to have a better financial performance in terms of ROA and net profit margin, but the impact of CSR is more pronounced for small firms. CSR contracts in general reduce the impact of CSR ratings on firm performance and risk.

Central Bank Digital Currency with Asymmetric Privacy
Tinn, Katrin,Dubach, Christophe
There are increasingly many digital alternatives to physical cash as basic means of payment, many of these offered by non-financial private sector actors. While such a trend towards a cashless society brings the convenience of digital payments to users and can encourage innovation in financial contracts, there are also increasing concerns about users' privacy as well as the regulators' ability to ensure compliance with anti-money laundering prevention and other regulations. As a result, Central Banks, who are responsible for overseeing prominent payment systems to ensure that they are safe, available to everyone and efficient, have become increasingly interested in a central bank digital currency (CBDC) design and potential implementation.In this paper we analyze the economic rationale for, and the technical feasibility of, a new form of CBDC. The key feature of our proposed Privacy-Hybrid CBDC is intentional asymmetric privacy between the receiver and the sender of money. We show that protecting the privacy of consumer spending is necessary to avoid distortions between producers and consumers. Furthermore, we model the demand of money and show that privacy protection is necessary for a classical money demand function in a framework where interest bearing financial assets can be used as means of payments. We also analyze how adoption incentives and the frequency of transactions depend on income and other factors. At the same time, limiting the privacy of money received enables compliance with tax and anti-money laundering regulations, and can enable new value adding services by financial institutions and technology firms.To achieve asymmetric privacy, we propose a CBDC system architecture that relies on a central registry of ID-linked accounts to ensure compliance and the use of zero-knowledge proofs to mint private tokens to achieve privacy. The system ensures that private tokens cannot be exchanged between users in a trust-less manner and that private tokens can only be used to send digital cash to the holder of an ID-linked account.This paper discusses how this system could be implemented with today's technology to support a throughput in excess of 2,000 transactions per second.

Central Counterparty CVA
Arnsdorf, Matthias
In this article we quantify the loss a financial institution can expect due to central counterparty (CCP) membership. Such a loss can be incurred whenever the CCP has insufficient funds to unwind the portfolio of a defaulting clearing member. This does not necessarily require the default of the CCP itself which is different to a standard bi-lateral exposure. We show in particular that a clearing member's CCP risk is given by a sum of exposures to each of the other clearing members. This arises because of the implicit default insurance that each member has provided in the form of mutualized, loss sharing collateral. We provide a model to calculate the exposures by specifying the parameterized loss distributions of the individual member portfolios. The resulting expected loss can be interpreted as a CCP counterparty valuation adjustment (CVA). This can also be applied to the calculation of losses in stress scenarios as specified, e.g., by the Comprehensive Capital Analysis and Review (CCAR) regulatory framework. We show that a typical stressed expected loss ranges between 10bp and 40bp of the total posted initial margin.

Cheapest-to-Deliver Collateral: A Common Factor Approach
Felix L. Wolf,Lech A. Grzelak,Griselda Deelstra

The collateral choice option gives the collateral posting party the opportunity to switch between different collateral currencies which is well-known to impact the asset price. Quantification of the option's value is of practical importance but remains challenging under the assumption of stochastic rates, as it is determined by an intractable distribution which requires involved approximations. Indeed, many practitioners still rely on deterministic spreads between the rates for valuation. We develop a scalable and stable stochastic model of the collateral spreads under the assumption of conditional independence. This allows for a common factor approximation which admits analytical results from which further estimators are obtained. We show that in modelling the spreads between collateral rates, a second order model yields accurate results for the value of the collateral choice option. The model remains precise for a wide range of model parameters and is numerically efficient even for a large number of collateral currencies.

Complex decision-making strategies in a stock market experiment explained as the combination of few simple strategies
Gael Poux-Medard,Sergio Cobo-Lopez,Jordi Duch,Roger Guimera,Marta Sales-Pardo

Many studies have shown that there are regularities in the way human beings make decisions. However, our ability to obtain models that capture such regularities and can accurately predict unobserved decisions is still limited. We tackle this problem in the context of individuals who are given information relative to the evolution of market prices and asked to guess the direction of the market. We use a networks inference approach with stochastic block models (SBM) to find the model and network representation that is most predictive of unobserved decisions. Our results suggest that users mostly use recent information (about the market and about their previous decisions) to guess. Furthermore, the analysis of SBM groups reveals a set of strategies used by players to process information and make decisions that is analogous to behaviors observed in other contexts. Our study provides and example on how to quantitatively explore human behavior strategies by representing decisions as networks and using rigorous inference and model-selection approaches.

Consumption Response to a Natural Disaster: Evidence of Price and Income Shocks from Chennai Flood
Agarwal, Sumit,Ghosh, Pulak,Zheng, Huanhuan
We utilize monthly individual-level financial data and item-level supermarket sales data to study how consumption responds to one of the costliest natural disasters in India. We find that consumption dropped by 11% during the disaster, 65% of which was recovered after the disaster. On average, consumption per capita dropped by $312 per year, which costs about 5% of the GDP. We also show that natural disasters depressed consumption through income shocks instead of price shocks. Consumers smooth consumption using credit card, banks loans and wealth in coping with the shocks.

Continuous-Time Risk Contribution and Budgeting for Terminal Variance
Mengjin Zhao,Guangyan Jia

Seeking robustness of risk among different assets, risk-budgeting portfolio selections have become popular in the last decade. Aiming at generalizing risk budgeting method from single-period case to the continuous-time, we characterize the risk contributions and marginal risk contributions on different assets as measurable processes, when terminal variance of wealth is recognized as the risk measure. Meanwhile this specified risk contribution has a aggregation property, namely that total risk can be represented as the aggregation of risk contributions among assets and $(t,\omega)$. Subsequently, risk budgeting problem that how to obtain the policy with given risk budget in continuous-time case, is also explored which actually is a stochastic convex optimization problem parametrized by given risk budget. Moreover single-period risk budgeting policy is related to the projected risk budget in continuous-time case. Based on neural networks, numerical methods are given in order to get the policy with a specified budget process.

Creditor Rights, Collateral Reuse, and Credit Supply
Lewis, Brittany
Utilizing a change to bankruptcy treatment of repo collateral, I provide causal evidence that strengthened creditor rights increase credit supply and financial instability by increasing the reuse of collateral. I use the 2000’s housing boom and bust as a laboratory and collect data linking dealers’ repledgeable collateral to their lending to mortgage companies. Exposed dealers increased their repledgeable collateral and credit provision to mortgage companies. Mortgage companies responded by increasing originations and pivoting toward non-traditional products. I estimate that the expansion in credit drove a 9% increase in originations and accounted for 38% of defaults, consistent with a financial accelerator.

Crowdfunding for Independent Parties
A.R. Baghirzade,B. Kushbakov

Nowadays there are a lot of creative and innovative ideas of business start-ups or various projects starting from a novel or music album and finishing with some innovative goods or website that makes our life better and easier. Unfortunately, young people often do not have enough financial support to bring their ideas to life. The best way to solve particular problem is to use crowdfunding platforms. Crowdfunding itself is a way of financing a project by raising money from a crowd or simply large number of people. It is believed that crowdfunding term appeared at the same time as crowdsourcing in 2006. Its author is Jeff Howe. However, the phenomenon of the national funding, of course, much older. For instance, the construction of the Statue of Liberty in New York, for which funds were collected by the people. Currently, the national project is financed with the use of the Internet. Author of the project in need of funding, can post information about the project on a special website and request sponsorship of the audience. Firstly, author selects the best crowdfunding platform for project requirements and sign in. then he or she creates and draws up the project. The project that is created must correspond to one of the categories available for selection (music, film, publishing, etc.). If you create brand new product, it is necessary to submit the draft-working prototype or sample product. A full list of design rules for a project can be viewed directly on the site of crowdfunding platform. While calculating the cost of project it is necessary to take into account the cost of realization the project, reward for your sponsors, moreover commission of payment systems and taxes. The project is considered successfully launched after it gets through moderation on website.

Determinants of Share Repurchases A Quantile Regression Approach
Chasiotis, Ioannis,Georgantopoulos, Andreas G.,Eriotis, Nikolaos
This study utilizes quantile regressions to investigate the effect of the determinants of share repurchases on firms at different points of the share repurchases distribution. Empirical results from a large panel of NYSE repurchasing firms, document an asymmetric effect of several determinants on share repurchases in terms of size, significance and direction. Excess capital, stock options and growth opportunities are significant throughout the distribution and their impact increases at successive quantiles while ownership concentration and leverage exhibit sign reversals between lower and upper quantiles. These differing effects are attributed to highly heterogeneous firm characteristics across quantiles.

Does Accounting Comparability Affect Corporate Employment Decision-Making?
Zhang, Zhuang,Ntim, Collins G.,Zhang, Qingjing,Elmagrhi, Mohamed
This paper investigates whether accounting comparability affects corporate employment decision-making. We find that firms with greater accounting comparability experience a lower degree of inefficiency in labour investments. Further, our results show that accounting comparability affects labour investments via improved external monitoring and internal governance mechanisms. Additional analyses indicate that our findings are not driven by non-labour investments and are robust to alternative explanations and endogeneity concerns. Collectively, the results are consistent with the view that comparability is an effective monitoring tool, which mitigates agency conflict and thereby reduces opportunistic employment decision-making.

Does Trust in an Online Marketplace Means Trust in Online Investing?
Chandra, Metta,Dalimunthe, Zuliani ,Prabowo, Hendro
In this study, we analyze factors influencing the intention to invest in mutual funds in e-commerce or online marketplace. We built a model based on the trust transfer theory to examine whether perceived similarity with other digital products â€" such as mobile payment products- affects investor’s trust. This assists in investigating the investor’s intention in mutual funds through an online marketplace using financial literacy as a mediating variable. Using Likert’ scale to collect data and regression model for the analysis, we collect the sample of 195 Indonesian respondents, familiar with purchasing in the online marketplace. We found that similarity with other digital products and the inventors’ trust in conventional mutual fund systems influence trust in e-commerce mutual funds and investor’s intention in mutual funds through an online marketplace. However, we found that financial literacy is weak in these relationships.

Duality Theory for Robust Utility Maximization
Daniel Bartl,Michael Kupper,Ariel Neufeld

In this paper we present a duality theory for the robust utility maximization problem in continuous time for utility functions defined on the positive real axis. Our results are inspired by -- and can be seen as the robust analogues of -- the seminal work of Kramkov & Schachermayer [21]. Namely, we show that if the set of attainable trading outcomes and the set of pricing measures satisfy a bipolar relation, then the utility maximization problem is in duality with a conjugate problem. We further discuss the existence of optimal trading strategies. In particular, our general results include the case of logarithmic and power utility, and they apply to drift and volatility uncertainty.

Dynamics of Cricket and Cricket Derivative
Agarwal, J.D.,Agarwal, Aman,Agarwal, Yamini
Hedging stakes in cricket is the need of the hour, for it no longer restricts its claims to league owners and cricket associations, independent teams and individual players. Financial, economic and social stakes today extend to the general public and government who happen to patronise the game and its economics in many roles as spectators, speculators, sponsors, developers and even organizers. The national and international significance of the game is much credited to the revolutionized viewing experience seized by game organisers, stadium owners and information dissemination channels including internet, television, radio and others. Yet returns are not guaranteed for any stakeholders, The game just like any economic good is not free from effects of economic and business cycles especially in regions where it continues to be a veblen good. The paper explains the economics of the game, its origins, development, mathematics and risk and develops a new financial instrument- Cricket Derivatives.

Entrepreneurial Orientation toward Access to Finance of Start-ups in Indonesia
Indianti, Nadira,Dalimunthe, Zuliani ,Triono, Rachmadi Agus
This paper aims to evaluate how entrepreneurial orientation affects the access a startup has to finance, from both angel investors and venture capital firms. Entrepreneurial orientation in this context consists of risk-taking, proactiveness, and innovativeness. We also evaluate whether a company’s growth mediates those relationships. For this research, we use primary data from surveys distributed to the CEOs or managers of startups in Indonesia collected through e-mail, WhatsApp, and social media. The data collected is then processed using the multiple regression and binary logistic methods with the help of SPSS software. Linear regression reveals that risk-taking positively affects startup growth, as does innovativeness. However, there is no evidence that proactiveness affects the growth of startups. Furthermore, our logistic regression showed that startups with high growth had a much greater chance of generating funds from venture capital firms. However, growth alone cannot attract angel investors for providing financing for startups. This finding indicates that start-up founders should highlight different aspects of their operations when seeking suitable investors.

False Discoveries in the Anomaly Research: New Insights from the Stock Exchange of Melbourne (1927-1987)
Cakici, Nusret,Zaremba, Adam,Bianchi, Robert J.,Pham, Nga
Are equity anomalies a product of p-hacking in the asset pricing literature? To shed new light on this question, we perform a true out-of-sample study of 30 well-known anomalies in the cross-section of returns. We replicate these anomalies in a novel hand-collected dataset of firms listed on the historical Stock Exchange of Melbourne in the years 1926 to 1987. The vast majority of return-predictive signals cannot be confirmed. Those which are observed are commonly driven by small firms with marginal economic significance. Only a handful of anomalies survive our tests, namely, the dividend yield, value uncertainty, and short-term residual reversal effects. Overall, our findings support the view that many anomalies are statistical artifacts resulting from data mining.

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

We show that the quotient of Levy processes of jump-diffusion type has a fat-tailed distribution. An application is to price theory in economics. We show that fat tails arise endogenously from modeling of price change based on an excess demand analysis resulting in a quotient of arbitrarily correlated demand and supply whether or not jump discontinuities are present. The assumption is that supply and demand are described by drift terms, Brownian (i.e., Gaussian) 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 relative excess demand, $\left( \mathcal{D}% -\mathcal{S}\right) /\mathcal{S}$ (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 empirical data for assets typically yields a value, $\zeta\tilde{=}3,$ or $\ \zeta \in\left[ 3,5\right] $ for some markets.

The discrepancy between the empirical result and theory never arises if one models price dynamics using basic economics methodology, i.e., generalized Walrasian adjustment, rather than the usual starting point for classical finance which assumes a normal distribution of price changes. The function $G$ is deterministic, and can be calibrated with a smaller data set. 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.

The mathematical results can be applied to other problems involving the relative difference or quotient of Levy processes of jump-diffusion type.

FinTech in the Financial Market - Between Competition and Stability
Delabarre, Maxime
This paper argues that the common competition framework is not to be applied to the financial sector. If traditionally competition brings efficiency and diversity in a market, financial regulators must also ensure the stability of the financial market. Henceforth, some limits and entry barriers have to exist. This is particularly true for FinTech companies. If the potential of those new actors is not to be contested, the risk they can bring is also quite obvious. If regulators want the market to be disrupted and to see consumers benefiting from the power of innovation of technology-based companies, they need to adapt their regulatory framework. Only under this condition will the benefits outweigh the potential risks.

Financial Analysts’ Forecasts Have Improved Significantly in the Post-Reg FD Period
Wang, Pengguo
Reducing the amount of private information in corporate disclosures does not necessarily reduce the accuracy of analysts’ forecasts. This paper applies model-based earnings forecasts as a benchmark that is immune from disclosure of private information and evaluates the relative performance of analysts’ forecasts of earnings against the benchmark. It finds that the I/B/E/S consensus forecasts in general outperform the benchmark forecasts in the post-Reg FD period, while they underperform the benchmark in the pre-Reg FD period. It seems that Reg FD is a watershed. The difference-in-difference analysis confirms that the accuracy of analysts’ consensus forecasts of earnings has improved significantly following the passage of Reg FD.

Financial factors selection with knockoffs: fund replication, explanatory and prediction networks
Damien Challet,Christian Bongiorno,Guillaume Pelletier

We apply the knockoff procedure to factor selection in finance. By building fake but realistic factors, this procedure makes it possible to control the fraction of false discovery in a given set of factors. To show its versatility, we apply it to fund replication and to the inference of explanatory and prediction networks.

Firm Responses to Violent Conflicts
Custodio, Claudia,Mendes, Bernardo,Mendes, Diogo
We estimate dynamic treatment effects of violent political conflicts on firm decisions to purchase inventory. We analyze monthly purchase data of 431 clients of a multinational beverage firm in Mozambique, as well as annual survey data. Firms respond to increases in conflict by decreasing purchases of inventory by up to 15%. This effect is significantly more pronounced for smaller firms. Firms exposed to violent conflicts also show greater intention to expand to less violent locations. The eruption of violent conflicts have significant short-term economic impact for small firms however, these do not persist beyond 2 months.

Foreign Direct Investments in the German Stock Market From China and the Gulf States
Achleitner, Ann‐Kristin,Bazhutov, Dmitry,Betzer, André,Keppler, Henry
We document empirical evidence that the investment patterns of the two most relevant investor groups from regions with hierarchical structures in the German stock market, namely China (including Hong Kong) and the Gulf Cooperation Council, differ substantially. Chinese investors buy large shares in relatively small, but not necessarily young, companies. Since their objective is often to gain control, they appear to pay higher premiums when acquiring large equity stakes. Investors from the Gulf states purchase smaller shareholdings in notably larger, older, and more international companies. They seem to seek long-term benefits rather than short-term profits. Our findings are mainly attributable to industrial policies pursued by Chinese and Gulf investors, which mirror the different political and economic goals in these two regions.

Going Through The Roof: On Prices for Drugs Sold Through Insurance
Kamphorst, Jurjen J.A.,Karamychev, Vladimir
We offer a theory of how the combination of budget constraints and insurance drives up prices. A natural context for our theory is the health care market, where drug prices can be very high. Our model predicts that monopoly prices for orphan drugs are inversely related to the prevalence up until a maximum price. This is supported by empirical evidence in the literature. As a result, prices of drugs sold by a monopoly treating rare serious diseases are doomed to go sky high.

Governance Structures and the Compensation of Powerful Corporate Leaders in Financial Firms during M&As
Agyei-Boapeah, Henry,Ntim, Collins G.,Fosu, Samuel
We examine the impact of mergers and acquisitions (M&As) on the compensation of powerful corporate leaders (i.e., boards of directors including CEOs, CFOs, and Board Chair) of acquiring firms. Using one of the largest datasets on M&As, directors’ compensation and governance to-date, consisting of a sample of UK financials (banks, insurance firms, private equity firms, and speciality finance firms) over a 13-year period, our results obtained by employing multivariate regression analyses show that acquisitions, on average, have a positive and significant impact on directors’ compensation, relating to both powerful corporate executives (CEOs, CFOs and all other executive directors) and non-executives (chairpersons and other non-executive directors). However, the positive acquisition effect on top executive compensation is much higher in large and complex acquisitions than in other deals. We also find that much of the acquisition-related pay rises is equity-based rather than cash-based. Finally, we find CEOs to be the top beneficiaries from acquisitions. Collectively, we interpret our findings within a multi-theoretical framework that draws insights from agency, executive power, managerial talent and tournament theories of top executive compensation.

How Perceived Risk Affects Continuance Intention to Invest through Peer-to-Peer Lending Platforms: Indonesia Case
Saykita, Westyas,Dalimunthe, Zuliani ,Triono, Rachmadi Agus
This study aims to analyze how perceived financial risk affects an investor’s decision to invest continuously through peer-to-peer lending (P2P) platforms in Indonesia. We also examine how perceptions of information asymmetry and perceptions of regulatory uncertainty affect an investor’s perceptions regarding the financial risk of investing through the platform. We collected data from 107respondents who are investors in a P2P lending platform in Indonesia using a closed questionnaire on a 6-point Likert scale. After conducting reliability and validity tests, we analyze the data using the PLS-SEM method. We found that both perceived information asymmetry and perceived regulatory uncertainty positively affect an investor’s financial risk perceptions, while perceived financial risk negatively affects an investor’s continuance intention. However, perceived financial risk's ability to explain an investor’s intention to invest continuously is only 16.5%, despite that the perceived information asymmetry and perceived regulatory uncertainty reveal that perceived financial risk is about 62.5%.

How Perceived Values Relates to User’s Intention to Save Money In E-Wallet: Indonesian Case
Tambun, Evlyn,Dalimunthe, Zuliani ,Nurhayati, Sri
Currently, the electronic wallet (e-wallet) payment method has been commonly used in Indonesia and slowly has been replacing cash as a payment method. Fintech companies, which mostly operate e-wallet services in Indonesia, are able to make short-term investments using their consumers’ e-wallet balances. However, the money balances tend toward small amounts. This research aims to evaluate whether perceived values affect Indonesians’ willingness to save more money in their e-wallet accounts. Perceived values here consist of perceived benefits and risks. We define perceived benefits as perceived monetary and convenience values. Meanwhile, we define perceived risk as encompassing economic, privacy, service, and psychological risk. We analyze the primary data from a total of 103 respondents collected via an online survey across Indonesia. We have conducted validity and reliability tests of the data collected before performing the main analysis using the regression method with SPSS Statistics 22. We found that perceived value affects users’ willingness to save more money on their e-wallets. However, we found that convenience benefit has a significantly positive effect on users’ saving intentions, while monetary benefit does not have the same effect. Meanwhile, service risk is the only risk that is relevant to users’ willingness to save money. These findings indicate that convenience and service are the most critical values for e-wallet users in Indonesia.

Human Resource Disclosures in UK Corporate Annual Reports: To What Extent Do These Reflect Organizational Priorities Towards Labor?
Vithana, Krishanthi,Soobaroyen, Teerooven,Ntim, Collins G.
Our study analyses the nature, quality and extent of human resource disclosures (HRDs) of UK Financial Times Stock Exchange (FTSE) 100 firms by relying on a novel disclosure index measuring the depth and breadth of disclosures. Contextually, we focus on the five-year period following the then Labor government’s attempts to encourage firms to formally report on their human resource management practices and to foster deeper employer-employee engagement. First, we evaluate the degree to which companies report comprehensively (or substantively) on a number of HRD items that we classify as “procedural” or “sustainable.” Second, we hypothesize that a company’s employee relation ideology (using a proxy to measure a company’s level of “unitarism”) is positively associated with HRD. Our results indicate that: (i) whilst there has been an increase in the breadth of HRD in terms of procedural and sustainable items being disclosed, the evolution towards a more comprehensive and in-depth form of HRD remains rather limited; and (ii) there is a positive association between a company’s employee relation ideology (unitarism) and the level of HRD. Theoretically, we conceive of HRD both as a reflection of an organization’s orientation towards a key stakeholder (unitarist relations with labor) and a legitimacy seeking exercise at a time of changing societal conditions. We contribute to the scant literature on the extent and determinants of HRD since prior research tends to subsume employee-related disclosures within the broader concept of social, ethical or intellectual capital disclosures. We also propose a disclosure checklist to underpin future HRD research.

Learning Organization using Conversational Social Network for Social Customer Relationship Management Effort
Andry Alamsyah,Yahya Peranginangin,Gabriel Nurhadi

The challenge of each organization is how they adapt to the shift of more complex technology such as mobile, big data, interconnected world, and the Internet of things. In order to achieve their objective, they must understand how to take advantage of the interconnected individuals inside and outside the organization. Learning organization continues to transform by listening and maintain the connection with their counterparts. Customer relationship management is an important source for business organizations to grow and to assure their future. The complex social network, where interconnected peoples get information and get influenced very quickly, certainly a big challenge for business organizations. The combination of these complex technologies provides intriguing insight such as the capabilities to listen to what the markets want, to understand their market competition, and to understand their market segmentation. In this paper, as a part of organization transformation, we show how a business organization mine online conversational in Twitter related to their brand issue and analyze them in the context of customer relationship management to extract several insights regarding their market.

Location Heterogeneity and the Transmission of Monetary Policy
Hu, Fang
This paper evaluates the role of multinational activities in the transmission of monetary policy. Empirically, I document firms that operate businesses linked to foreign markets are more responsive to monetary policy than domestic firms in the United States. Corporate investment increases more following expansionary monetary policy shocks for firms with more experience abroad, higher foreign sales dependency, and for those that operate in more countries. The disparities in investment between firms along these measures increase sharply in the first three quarters before leveling off. The findings are consistent with the hedging property of global diversification where offshore growth and investment opportunities differ from local economic conditions. Through various robustness checks, I show the results are not likely driven by heterogeneity in financial conditions, differences in policy rates, nor additional macroeconomic shocks. Increasing global interconnectedness therefore makes monetary policy more impactful.

Measuring the Cost of Government Activities That Involve Financial Risk
Office, Congressional Budget
This report explains the details of two approaches to measuring the cost of government activities that involve financial risk, the qualitative differences between them, and their application to various activities and programs.

Pre-selection in cointegration-based pairs trading
Brunetti, Marianna,De Luca, Roberta
This paper compares the final profitability of a cointegration-based pairs trading strategy when pairs of stocks are pre-selected using seven different measures. Pre-selection matters, since the excess returns remarkably vary, in terms of both average and variability, depending on the metrics used. Differences in profitability by pre-selection metrics are retrieved even after considering commissions and cut rules, market impact, and a stricter definition of the Spread reversion to the equilibrium. Besides, the profitability of the pairs trading strategy is also found heterogeneous across the different pre-selection metrics considered in terms of exposure to the traditional risk-factors.

Present Bias and Debt-Financed Durable Goods
Bar-Gill, Oren,Hayashi, Andrew T.
There is concern that present-biased agents incur too much debt because of its deferred costs â€" concern that has influenced regulation of consumer credit. While this concern is valid when debt is used to finance current consumption, credit may increase efficiency when it is used to fund durable good purchases, which is the most common use of debt. Without debt, present-biased agents underconsume durable goods because of their deferred benefits. The deferred cost of debt can offset the deferred benefit from the durable good. We study the effects of purchase-financing on the demand for durable goods by present-biased agents.

Productivity, managers' social connections and the Great Recession
Hasan, Iftekhar,Manfredonia, Stefano
This paper investigates whether managers' personal connections help corporations to escape the productivity trap. Leveraging the heterogeneity in the severity of the Great Recession across different sectors, the paper reports that (i) the Great Recession had a negative effect on corporate productivity, (ii) the effect was long-lasting and persistent, supporting a productivity-hysteresis hypothesis, (iii) managers' personal connections are counter-cyclical and indeed allowed corporations to escape the productivity trap primarily via favorable credit conditions, in periods of high information asymmetries and tight credit constraints.

Relatedness in the Era of Machine Learning
Andrea Tacchella,Andrea Zaccaria,Marco Miccheli,Luciano Pietronero

Relatedness is a quantification of how much two human activities are similar in terms of the inputs and contexts needed for their development. Under the idea that it is easier to move between related activities than towards unrelated ones, empirical approaches to quantify relatedness are currently used as predictive tools to inform policies and development strategies in governments, international organizations, and firms. Here we focus on countries' industries and we show that the standard, widespread approach of estimating Relatedness through the co-location of activities (e.g. Product Space) generates a measure of relatedness that performs worse than trivial auto-correlation prediction strategies. We argue that this is a consequence of the poor signal-to-noise ratio present in international trade data. In this paper we show two main findings. First, we find that a shift from two-products correlations (network-density based) to many-products correlations (decision trees) can dramatically improve the quality of forecasts with a corresponding reduction of the risk of wrong policy choices. Then, we propose a new methodology to empirically estimate Relatedness that we call Continuous Projection Space (CPS). CPS, which can be seen as a general network embedding technique, vastly outperforms all the co-location, network-based approaches, while retaining a similar interpretability in terms of pairwise distances.

Sensitivity analysis of an integrated climate-economic model
Benjamin M. Bolker,Matheus R. Grasselli,Emma Holmes

We conduct a sensitivity analysis of a new type of integrated climate-economic model recently proposed in the literature, where the core economic component is based on the Goodwin-Keen dynamics instead of a neoclassical growth model. Because these models can exhibit much richer behaviour, including multiple equilibria, runaway trajectories and unbounded oscillations, it is crucial to determine how sensitive they are to changes in underlying parameters. We focus on four economic parameters (markup rate, speed of price adjustments, coefficient of money illusion, growth rate of productivity) and two climate parameters (size of upper ocean reservoir, equilibrium climate sensitivity) and show how their relative effects on the outcomes of the model can be quantified by methods that can be applied to an arbitrary number of parameters.

Small impact analysis in stochastically illiquid markets
Ulrich Horst,Evgueni Kivman

We consider an optimal liquidation problem with instantaneous price impact and stochastic resilience for small instantaneous impact factors. Within our modelling framework, the optimal portfolio process converges to the solution of an optimal liquidation problem with with general semi-martingale controls when the instantaneous impact factor converges to zero. Our results provide a unified framework within which to embed the two most commonly used modelling frameworks in the liquidation literature and show how liquidation problems with portfolio processes of unbounded variation can be obtained as limiting cases in models with small instantaneous impact as well as a microscopic foundation for the use of semi-martingale liquidation strategies. Our convergence results are based on novel convergence results for BSDEs with singular terminal conditions and novel representation results of BSDEs in terms of uniformly continuous functions of forward processes.

Socially Responsible Investing: Combining ESG Ratings with News Sentiment Generates Alpha
Hafez, Peter,Gomez, Francisco
ESG ratings as a stock screener for downside protection can be significantly improved when combined with sentiment indicators derived from news and social media. Following a statistical approach, consisting in evaluating thousands of long-only monthly-rebalanced random portfolios, we find supporting evidence that: (1) ESG ratings used for portfolio screening provide downside risk mitigation and a positive, albeit modest, increase in performance with respect to fully random portfolios. (2) The performance and downside protection of ESG-screened portfolios can be enhanced by adding a sentiment overlay. (3) The price reaction of ESG-related negative events leads to fast momentum signals followed by slow reversal signals. (4) A double overlay of broad sentiment and ESG reversal signals improves alpha generation by up to 300 basis points and reduces the maximum drawdown by a factor of 2 compared to the random market portfolio.

Testing Methods to Enhance Longevity Awareness
Hurwitz, Abigail,Mitchell, Olivia S.,Sade, Orly
Many people have only a vague notion of the concept of life expectancy and the longevity risk they face at older ages, which in turn implies that they are likely to undersave for retirement. This paper employs an online experiment to investigate alternative ways to describe both life expectancy and longevity risk, with the goal of assessing whether these can raise peoples’ awareness of possible retirement shortfalls. We also evaluate whether providing this information promotes interest in saving activity and demand for longevity insurance products. We find that providing longevity risk information impacts respondents’ subjective survival probabilities, while simply describing average life expectancy does not. Yet providing life expectancy or longevity information significantly affects financial decisions, mostly regarding annuitization. Interestingly, we also find that merely prompting people to think about financial decisions changes their perceptions regarding subjective survival probabilities.

The Bribe Rate and Long Run Differences in Sovereign Borrowing Costs
Cotoc, Jonny,Johri, Alok
The average cost of borrowing on international financial markets varies widely from nation to nation even after controlling for the varying levels of indebtedness of their governments. This suggests that markets assign country specific default risk assessments. In this paper we focus on one natural source of this difference â€" the quality of their institutions. We begin by showing that the average sovereign spread is positively related to the average percentage of a government contract that must be given as a “gift” in order to secure the contract. We then build a sovereign default model where the government is constrained to use corrupt bureaucrats to deliver public goods and services and manage its accounts. Using the gift data as a measure of the public resources diverted by bureaucrats, and the Rule of Law index as a measure of institutional quality, we estimate the diversion policy of bureaucrats and use it to calibrate our model to international data. We use the model to generate an artificial international data set where countries vary only in the institutional quality parameter. Running the same regressions on our artificial data, we find that average spreads are positively associated with the bribe (gift) rate and with average debt levels. The model implies that when revenue streams are low, a benefit of default is that public services net of bureaucratic diversion actually increase. Since the net gain in public services obtained by defaulting is decreasing in the level of institutional quality, international lenders assign lower default risk to those countries.

The Importance of Partner Naming when Examining Auditor Independence and Non-Audit Services
Kent, Pamela,Kent, Richard,Richardson, Grant,Sharma, Divesh
We examine whether the naming of partners provides a benefit to the public in the context of allowing researchers to empirically collect evidence on the economic importance of non-audit services (NAS) at the partner level. We provide evidence showing that auditor independence is impaired when auditors provide higher NAS using actual auditor provided NAS fees and the type and dollar value of those fees. Specific NAS are not banned and the identity of the audit engagement partner, NAS fees and description of the type and value of NAS from the audit firm are publicly disclosed in Australia. These data allow us to examine actual auditor provided NAS fees and type and dollar value of fees at the partner, office and firm level in an environment where NAS is not constrained by regulation. We find that higher NAS fee-based client importance is associated with fewer going concern opinions at the partner, office and firm level for distressed firms, and more earnings management at the partner level. In additional tests, we find that the observed associations are driven by non-tax NAS fee-based measures of client importance to the audit engagement partner. Hierarchical linear modelling analyses also show that reduced audit quality associated with higher NAS fees is mainly explained by partner, rather than firm and office level fees.

The Influence of Family Firms on Corporate Tax Avoidance after the Indonesian Tax Amnesty Program
Raditya, Reza,Dalimunthe, Zuliani ,Rizkianto, Eko
This paper analyzes the effect of family ownership on a company’s tax avoidance practices in Indonesia. This study also analyzes whether there is a change in tax avoidance practice after the tax amnesty program implemented in 2015-2016. We used three measurements to capture tax avoidance practices, (a) effective tax rate, (b) cash effective tax rate, and (c) book-tax difference. Our sample for this study is forty-nine non-state-owned non-financial private Indonesian firms who participated in the tax amnesty program 2015-2016. This study covered data for the 2013 to 2017 period divided into before tax amnesty and post-tax amnesty program. We found that family ownership has a positive impact on tax avoidance practice. In other words, family-own companies avoid tax payments more aggressively compared to non-family own companies. However, despite the regulator expected the tax amnesty program to reduce the company’s tax avoidance practice, we found different results. The company’s tax avoidance behavior does not change even when tax authorities have implemented a tax amnesty program.

The Information Content of Corporate Websites
Lynch, Bradford,Taylor, Daniel J.
In 2008, the SEC published guidance allowing firms to use corporate websites as an alternative disclosure channel to EDGAR. While the information content and market reaction to traditional disclosure channels such as EDGAR filings and press releases are well-documented, evidence on corporate websites as a disclosure channel is scarce. In this paper, we take the first step toward shedding light on corporate websites as an important source of information to investors. Employing standard event study methods, we develop a novel measure of corporate website content and find that increases in website content provide significant value-relevant information to investors incremental to that contained in traditional disclosure channels. In addition, we find a negative relation website content and information asymmetry, and that this negative relation is most pronounced after the SEC’s 2008 guidance. Collectively, our findings indicate that corporate websites are an economically significant source of new information that supplements traditional disclosure channels considered in prior literature.

The Option to Pay Attention
Izhakian, Yehuda (Yud),Levy, Hagit,Shalev, Ron,Zur, Emanuel
We use a novel dataset of individuals’ stock-following over time (watchlists), to examine how the perceived expected benefit of paying attention to a security affects the decision to start or stop following the security. Viewing the decision to follow securities as a real option, we provide evidence that the value of following a security (paying attention to a security over time) decreases in its ambiguityâ€"Knightian uncertaintyâ€"and increases in its risk. Furthermore, the overall attention an individual pays to securities decreases in watchlist ambiguity and increases in its risk. These evidence provide new insights into information acquisition and processing decisions.

The Power of ESG Ratings on Stock Markets
Latino, Carmelo,Pelizzon, Loriana,Rzeźnik, Aleksandra
This paper studies the impact of environmental, social, and governance (ESG) ratings on investors’ preferences and stock prices. We exploit a change in ESG rating methodology that non-linearly shifted ESG ratings for firms as a natural experiment. We show that the ‘pseudo’-changes in the ESG ratings induced by the change in methodology are unrelated to potential fundamental changes in firm’s sustainability. Yet, we find that an exogenous change in a stock’s ESG rating exerts a transitory price pressure and alters the composition of stock ownership. Individual investors are especially sensitive to the ‘pseudo’-changes in the ESG ratings. They (dis)invest in stocks that they misconceive as ESG (down-) upgraded. Short sellers act as arbitrageurs and take the other side of retail investors’ trades. Overall, we find that a one standard deviation quasi-increase in the ESG ratings translates into 1pp drop in stock monthly abnormal return.

The Stock Market and Household Financial Behavior
Farrell, Diana,Eckerd, George
In this JPMorgan Chase Institute report, we document a high-frequency relationship between stock market returns and patterns observed in consumer spending and investing behavior. The analysis draws from a core sample of approximately 12 million active Chase credit card users since 2012, and we seek to explain how the distribution of monthly credit card spending changes responds to stock market returns. The right tail of this distributionâ€"characterized by spending increases double or triple a person’s typical levelâ€" is over two times more sensitive to the market than the center of the distribution. The relationship is more pronounced for male investors than non-investors and women. Applying the same econometric framework for stock market returns to changes in checking account-based spending and changes in labor income does not yield a statistically discernible relationship in our sample. Meanwhile, individuals’ transfers to investment accounts display a notable correlation with lagged stock returns, consistent with “returns chasing.” Such transfers roughly doubled around the onset of the COVID national emergency, alongside sharp declines in spending. Our findings imply that policies seeking to exert control over business cycles via the stock market may be successful over short time horizons. However, since stock market gains are associated with spending “splurges” on credit cards and flows into investment brokerage accounts, stimulus aimed at supporting asset prices can come with costs in the form of households’ financial vulnerability. If gains in stock prices are not followed by an improving labor market, households that over-extend themselves in terms of spending or equity market exposure would face risks.

Treasury TR
Geissmann, Martin
Generating Total Returns Data from US Treasury Bond Yields.

Uniform Predictive Inference for Factor Models with Instrumental and Idiosyncratic Betas
Cheng, Mingmian,Liao, Yuan,Yang, Xiye
This paper investigates the effect of characteristic-based time-varying factor beta on the diffusion-index type forecast. Specifically, the factor beta includes two distinct components: the "instrumental beta'' is a function of some observed stable variables, while the "idiosyncratic beta'' captures the more volatile residual movements. To estimate these time-varying beta's, we propose to apply the projected PCA (P-PCA), which takes advantage of firm characteristics, on high-frequency return data. We show that various components of the conditional mean forecast error are all asymptotically normal. Of particular note is that the time-varying idiosyncratic beta has nontrivial effects on the first-order asymptotic of the conditional mean forecast. A Monte Carlo exercise demonstrates fairly good finite sample properties of the P-PCA estimators and shows that the P-PCA method largely outperforms the traditional PCA method for factor-augmented prediction. In our empirical experiments of volatility forecasting, we find that the predictive model estimated by the P-PCA method achieves preferable performance for a wide variety of target assets. We provide evidence that the forecast uncertainty arose from the time variation in factor beta magnifies during volatile periods. In such cases, exploiting the information in stable characteristics plays an even more crucial role in producing effective diffusion-index forecasts.

Value-based Performance Measurement with the Attribution Matrix and the Finite Change Sensitivity Index
Magni, Carlo Alberto,Marchioni, Andrea,Baschieri, Davide
We present a model of performance measurement and attribution for delegated investments that summarizes the manager effect and the client effect on value creation. In particular, we introduce an innovative two-dimensional approach that, on one hand, detects the (manager and client) decision effects, measuring the impact of manager/investor choices on the overall investment performance and, on the other hand, detects the (manager and client) period effects, measuring the impact of all the (manager and client) decisions on the investment performance in a given assessment interval. As for the decision effects, the value added of an active investment portfolio is broken down in terms of the value generated by the decisions made by the manager (manager decision effect) and the value generated by the client/investor (client decision effect). As for the period effects, we quantify the impact of all the decisions made in the assessment interval on the value creation generated in a single period by the manager (manager period effect) and the client (client period effect), so that the sum of the periods' attribution values is the investment's value added. In order to accomplish the task, we employ the Finite Change Sensitivity Index (FCSI), which enables one to quantify the impact of the most influential decisions made by managerand investor, and a truncation approach which is equivalent to the well-known residual-income approach. We then combine the two attribution dimensions into an Attribution Matrix (AM). Each element of the AM provides the amount of value added generated in a given period by the decisions made by the manager or by the investor in (the same or) another period.

What Factors Affect the Intention to Borrow Through Peer to Peer Lending in Indonesia?
Susanti, Rita,Dalimunthe, Zuliani ,Triono, Rachmadi Agus
This research aims to investigate various intentions that influence borrowers in using a technology that focuses on the peer-to-peer lending platform as a growing financial services business in Indonesia. We use a survey by distributing online questionnaires and collect data from 183 borrowers through peer-to-peer lending. The linear regression results that have been done show that trust, perceived risk, utilitarian value, and perceived cost have a significant effect on the intention to borrow through peer-to-peer lending whereas ease of use shows insignificant results. The limitations of this study emphasize the first ten peer-to-peer lending companies registered with the OJK. Also, this study consisted of five factors measured against the intention to borrow through peer-to-peer lending.