Risk Premia (risk + premia)

Distribution by Scientific Domains
Distribution within Business, Economics, Finance and Accounting


Selected Abstracts


Excess Risk Premia of Asian Banks

INTERNATIONAL REVIEW OF FINANCE, Issue 2 2000
Jianping (J.P.) Mei
This paper develops a framework for gauging the risks of emerging market banks by using stock market data. Employing a multifactor asset pricing model that allows for time-varying risk premia, we find the presence of large excess risk premia on Asian bank stocks, especially in those markets affected by the Asian financial crisis. We find that the excess risk premia appear to be negatively related to the degree of economic freedom of a country but positively related to its corruption level. Thus, our findings are consistent with the view that crony capitalism in Asia may have distorted the market mechanism or the systematic risk exposure of banks. This suggests that the excess risk premium provides useful information on risk exposure for opaque banking systems where quality accounting information is not available. [source]


Model Specification and Risk Premia: Evidence from Futures Options

THE JOURNAL OF FINANCE, Issue 3 2007
MARK BROADIE
ABSTRACT This paper examines model specification issues and estimates diffusive and jump risk premia using S&P futures option prices from 1987 to 2003. We first develop a time series test to detect the presence of jumps in volatility, and find strong evidence in support of their presence. Next, using the cross section of option prices, we find strong evidence for jumps in prices and modest evidence for jumps in volatility based on model fit. The evidence points toward economically and statistically significant jump risk premia, which are important for understanding option returns. [source]


Do counter-cyclical payments in the 2002 US Farm Act create incentives to produce?,

AGRICULTURAL ECONOMICS, Issue 2-3 2004
Jesús Antón
Abstract Analytical results in the literature suggest that counter-cyclical payments create risk-related incentives to produce even if they are ,decoupled' under certainty [Hennessy, D. A., 1998. The production effects of agricultural income support polices under uncertainty. Am. J. Agric. Econ. 80, 46,57]. This paper develops a framework to assess the risk-related incentives to produce created by commodity programmes like the loan deficiency payments (LDPs) and the counter-cyclical payments (CCPs) in the 2002 US Farm Act. Because CCPs are paid based on fixed production quantities they have a weaker risk-reducing impact than LDPs. The latter have a direct impact through the variance of the producer price distributions, while the impact of CCPs is due only to the covariance between the CCP and the producer price distributions. The methodology developed by [Chavas, J.-P., Holt, M. T., 1990. Acreage decisions under risk: the case of corn and soybeans. Am. J. Agric. Econ. 72 (3), 529,538] is applied to calculate the appropriate variance-covariance matrix of the truncated producer price distributions under the 2002 Farm Act. Risk premia are computed showing that the risk-related incentives created by CCPs are significant and do not disappear for levels of production above the base production on which CCPs are paid. [source]


Analysing Macro-Poverty Linkages of External Liberalisation: Gaps, Achievements and Alternatives

DEVELOPMENT POLICY REVIEW, Issue 3 2005
Bernhard G. Gunter
CGE modelling has dominated analysis of the impact of external liberalisation on poverty. This article provides a structuralist critique of standard neo-classical CGE models. It highlights five sets of gaps and partial achievements in the modelling of issues affecting the poverty impact of macroeconomic policies: duality and structural rigidities; efficiency gains and quota rents; the investment and savings specification; the nature of public expenditures; and the modelling of financial fragility, risk premia and issues of credibility. It outlines a model that makes it possible to analyse more plausible stories about the impact of both current and capital account liberalisation and questions the realism of existing approaches to ex-ante poverty impact assessment. [source]


Efficiency, Equilibrium, and Asset Pricing with Risk of Default

ECONOMETRICA, Issue 4 2000
Fernando Alvarez
We introduce a new equilibrium concept and study its efficiency and asset pricing implications for the environment analyzed by Kehoe and Levine (1993) and Kocherlakota (1996). Our equilibrium concept has complete markets and endogenous solvency constraints. These solvency constraints prevent default at the cost of reducing risk sharing. We show versions of the welfare theorems. We characterize the preferences and endowments that lead to equilibria with incomplete risk sharing. We compare the resulting pricing kernel with the one for economies without participation constraints: interest rates are lower and risk premia depend on the covariance of the idiosyncratic and aggregate shocks. Additionally, we show that asset prices depend only on the valuation of agents with substantial idiosyncratic risk. [source]


Efficiency in the Pricing of the FTSE 100 Futures Contract

EUROPEAN FINANCIAL MANAGEMENT, Issue 1 2001
Joëlle Miffre
This paper studies the pricing efficiency in the FTSE 100 futures contract by linking the predictable movements in futures returns to the time-varying risk and risk premia associated with prespecified factors. The results indicate that the predictability of the FTSE 100 futures returns is consistent with a conditional multifactor model with time-varying moments. The dynamics of the factor risk premia, combined with the variation in the betas, capture most of the predictable variance of returns, leaving little variation to be explained in terms of market inefficiency. Hence the predictive power of the instruments does not justify a rejection of market efficiency. [source]


An explanation of the forward premium ,puzzle'

EUROPEAN FINANCIAL MANAGEMENT, Issue 2 2000
Richard Roll
Existing literature reports a puzzle about the forward rate premium over the spot foreign exchange rate. The premium is often negatively correlated with subsequent changes in the spot rate. This defies economic intuition and possibly violates market efficiency. Rational explanations include non-stationary risk premia and econometric mis-specifications, but some embrace the puzzle as a guide to profitable trading. We suggest there is really no puzzle. A simple model fits the data: forward exchange rates are unbiased predictors of subsequent spot rates. The puzzle arises because the forward rate, the spot rate, and the forward premium follow nearly non-stationary time series processes. We document these properties with an extended sample and show why they give the delusion of a puzzle. [source]


A Required Yield Theory of Stock Market Valuation and Treasury Yield Determination

FINANCIAL MARKETS, INSTITUTIONS & INSTRUMENTS, Issue 1 2009
Christophe Faugčre
Stock market valuation and Treasury yield determination are consistent with the Fisher effect (1896) as generalized by Darby (1975) and Feldstein (1976). The U.S. stock market (S&P 500) is priced to yield ex-ante a real after-tax return directly related to real long-term GDP/capita growth (the required yield). Elements of our theory show that: (1) real after-tax Treasury and S&P 500 forward earnings yields are stationary processes around positive means; (2) the stock market is indeed priced as the present value of expected dividends with the proviso that investors are expecting fast mean reversion of the S&P 500 nominal growth opportunities to zero. Moreover, (3) the equity premium is mostly due to business cycle risk and is a direct function of below trend expected productivity, where productivity is measured by the growth in book value of S&P 500 equity per-share. Inflation and fear-based risk premia only have a secondary impact on the premium. The premium is always positive or zero with respect to long-term Treasuries. It may be negative for short-term Treasuries when short-term productivity outpaces medium and long run trends. Consequently: (4) Treasury yields are mostly determined in reference to the required yield and the business cycle risk premium; (5) the yield spread is largely explained by the differential of long-term book value per share growth vs. near term growth, with possible yield curve inversions. Finally, (6) the Fed model is partially validated since both the S&P 500 forward earnings yield and the ten-year Treasury yield are determined by a common factor: the required yield. [source]


Financial Intermediaries and Interest Rate Risk: II

FINANCIAL MARKETS, INSTITUTIONS & INSTRUMENTS, Issue 5 2006
Sotiris K. Staikouras
The current work extends and updates the previous survey (Staikouras, 2003) by looking at other aspects of the financial institutions' yield sensitivity. The study starts with an extensive discussion of the origins of asset-liability management and the subsequent work to identify effective ways of measuring and managing interest rate risk. The discussion implicates both regulatory and market-based approaches along with any issues surrounding their applicability. The literature is enriched by recognizing that structural and regulatory shifts affect financial institutions in different ways depending on the size and nature of their activities. It is also noted that such shifts could change the bank's riskiness, and force banks to adjust their balance sheet size by altering their maturity intermediation function. Besides yield changes, market cycles are also held responsible for asymmetric effects on corporate values. Furthermore, nonstandard investigations are considered, where embedded options and basis risk are significant above and beyond the intermediary's rate sensitivity, while shocks to the slope of the yield curve is identified as a new variable. When the discount privilege is modeled as an option, it is shown that its value is incorporated in the equities of qualifying banks. Finally, volatility clustering is further established while constant relative risk aversion is not present in the U.S. market. Although some empirical findings may be quite mixed, there is a general consensus that all forms of systematic risk, risk premia, and the risk-return trade-off do exhibit some form of variability, not only over time but also across corporate sizes and segments. [source]


Price and Volatility Transmission across Borders

FINANCIAL MARKETS, INSTITUTIONS & INSTRUMENTS, Issue 3 2006
Louis Gagnon
Over the past forty years, financial markets throughout the world have steadily become more open to foreign investors. With open markets, asset prices are determined globally. A vast literature on portfolio choice and asset pricing has evolved to study the importance of global factors as well as local factors as determinants of portfolio choice and of expected returns on risky assets. There is growing evidence that risk premia are increasingly determined globally. An important outcome of this force of globalization is increased comovement in asset prices across markets. This survey study examines the literature on the dynamics of comovements in asset prices and volatility across markets around the world. The literature began in the 1970s in conjunction with early theoretical developments on international asset pricing models, but it blossomed in the late 1980s and early 1990s with the availability of comprehensive international stock market databases and the development of econometric methodology to model these dynamics. [source]


Monetary policy's effects during the financial crises in Brazil and Korea

INTERNATIONAL JOURNAL OF FINANCE & ECONOMICS, Issue 1 2003
Charles Goodhart
This paper looks at the effect of monetary policy changes on asset prices in the foreign exchange and equity markets of Brazil and Korea. We were searching for evidence whether monetary policy tightening may have had (adverse) counterproductive effects on such asset markets. In common with other authors we find only weak or sporadic evidence for this hypothesis. Using a theoretical model of financial market imperfections, we show that the failure to find monetary policy effectiveness during a crisis can come about not only because of the endogeneity caused by a ,leaning against the wind' policy reaction but also, independently, if there are large and correlated risk premia in the financial markets in which interest rates and determined. Copyright © 2003 John Wiley & Sons, Ltd. [source]


Excess Risk Premia of Asian Banks

INTERNATIONAL REVIEW OF FINANCE, Issue 2 2000
Jianping (J.P.) Mei
This paper develops a framework for gauging the risks of emerging market banks by using stock market data. Employing a multifactor asset pricing model that allows for time-varying risk premia, we find the presence of large excess risk premia on Asian bank stocks, especially in those markets affected by the Asian financial crisis. We find that the excess risk premia appear to be negatively related to the degree of economic freedom of a country but positively related to its corruption level. Thus, our findings are consistent with the view that crony capitalism in Asia may have distorted the market mechanism or the systematic risk exposure of banks. This suggests that the excess risk premium provides useful information on risk exposure for opaque banking systems where quality accounting information is not available. [source]


Option Market Efficiency and Analyst Recommendations

JOURNAL OF BUSINESS FINANCE & ACCOUNTING, Issue 5-6 2010
James S. Doran
Abstract:, This paper examines the information content in option markets surrounding analyst recommendation changes. The sample includes 6,119 recommendation changes for optionable stocks over the period January 1996 through December 2005. As expected, mean underlying asset returns are positive (negative) on days of recommendation upgrades (downgrades). However, volatility levels and shifts prior to recommendation changes explain a significant portion of underlying asset price responses. Ex-ante price and volatility responses in option markets are linked to increased jump uncertainty risk premia. Our findings suggest information in option markets leads analyst recommendation changes, implying revisions contain less information than previously thought. [source]


Modelling Regime-Specific Stock Price Volatility,

OXFORD BULLETIN OF ECONOMICS & STATISTICS, Issue 6 2009
Carol Alexander
Abstract Single-state generalized autoregressive conditional heteroscedasticity (GARCH) models identify only one mechanism governing the response of volatility to market shocks, and the conditional higher moments are constant, unless modelled explicitly. So they neither capture state-dependent behaviour of volatility nor explain why the equity index skew persists into long-dated options. Markov switching (MS) GARCH models specify several volatility states with endogenous conditional skewness and kurtosis; of these the simplest to estimate is normal mixture (NM) GARCH, which has constant state probabilities. We introduce a state-dependent leverage effect to NM-GARCH and thereby explain the observed characteristics of equity index returns and implied volatility skews, without resorting to time-varying volatility risk premia. An empirical study on European equity indices identifies two-state asymmetric NM-GARCH as the best fit of the 15 models considered. During stable markets volatility behaviour is broadly similar across all indices, but the crash probability and the behaviour of returns and volatility during a crash depends on the index. The volatility mean-reversion and leverage effects during crash markets are quite different from those in the stable regime. [source]


Inspecting The Mechanism: Closed-Form Solutions For Asset Prices In Real Business Cycle Models*

THE ECONOMIC JOURNAL, Issue 489 2003
Martin Lettau
We derive closed-form solutions for asset prices in an RBC economy. The equations are based on a log-linear solution of the RBC model and allow a clearer understanding of the determination of risk premia in models with production. We demonstrate not only why the premium of equity over the risk-free rate is small but also why the premium of equity over a real long-term bond is small and often negative. In particular, risk premia for equity and long real bonds are negative when technology shocks are permanent. [source]


Sovereign Risk in the Classical Gold Standard Era,

THE ECONOMIC RECORD, Issue 271 2009
PRASANNA GAI
This paper reassesses the determinants of sovereign bond yields during the classical gold standard period (1872,1913) using the pooled mean group methodology. We find that, rather than lowering risk premia directly, membership of the gold standard hastened the convergence of sovereign bond spreads to their long-run equilibrium levels. Our results also suggest that investors looked beyond the gold standard to country-specific fundamental factors when pricing and differentiating sovereign risk. [source]


Long-Run Stockholder Consumption Risk and Asset Returns

THE JOURNAL OF FINANCE, Issue 6 2009
CHRISTOPHER J. MALLOY
ABSTRACT We provide new evidence on the success of long-run risks in asset pricing by focusing on the risks borne by,stockholders. Exploiting microlevel household consumption data, we show that long-run stockholder consumption risk better captures cross-sectional variation in average asset returns than aggregate or nonstockholder consumption risk, and implies more plausible risk aversion estimates. We find that risk aversion around 10 can match observed risk premia for the wealthiest stockholders across sets of test assets that include the 25 Fama and French portfolios, the market portfolio, bond portfolios, and the entire cross-section of stocks. [source]


The Risk-Adjusted Cost of Financial Distress

THE JOURNAL OF FINANCE, Issue 6 2007
HEITOR ALMEIDA
ABSTRACT Financial distress is more likely to happen in bad times. The present value of distress costs therefore depends on risk premia. We estimate this value using risk-adjusted default probabilities derived from corporate bond spreads. For a BBB-rated firm, our benchmark calculations show that the NPV of distress is 4.5% of predistress value. In contrast, a valuation that ignores risk premia generates an NPV of 1.4%. We show that marginal distress costs can be as large as the marginal tax benefits of debt derived by Graham (2000). Thus, distress risk premia can help explain why firms appear to use debt conservatively. [source]


Model Specification and Risk Premia: Evidence from Futures Options

THE JOURNAL OF FINANCE, Issue 3 2007
MARK BROADIE
ABSTRACT This paper examines model specification issues and estimates diffusive and jump risk premia using S&P futures option prices from 1987 to 2003. We first develop a time series test to detect the presence of jumps in volatility, and find strong evidence in support of their presence. Next, using the cross section of option prices, we find strong evidence for jumps in prices and modest evidence for jumps in volatility based on model fit. The evidence points toward economically and statistically significant jump risk premia, which are important for understanding option returns. [source]


Electricity Forward Prices: A High-Frequency Empirical Analysis

THE JOURNAL OF FINANCE, Issue 4 2004
Francis A. Longstaff
ABSTRACT We conduct an empirical analysis of forward prices in the PJM electricity market using a high-frequency data set of hourly spot and day-ahead forward prices. We find that there are significant risk premia in electricity forward prices. These premia vary systematically throughout the day and are directly related to economic risk factors, such as the volatility of unexpected changes in demand, spot prices, and total revenues. These results support the hypothesis that electricity forward prices in the Pennsylvania, New Jersey, and Maryland market are determined rationally by risk-averse economic agents. [source]


Extracting the Expected Path of Monetary Policy From Futures Rates

THE JOURNAL OF FUTURES MARKETS, Issue 8 2004
Brian SackArticle first published online: 8 JUN 200
Federal funds and eurodollar futures contracts are among the most useful instruments for deriving expectations of the future path of monetary policy. However, reading policy expectations from those instruments is complicated by the presence of risk premia. This paper demonstrates how to extract the expected policy path under the assumption that risk premia are constant over time, and under a simple model that allows risk premia to vary. In the latter case, the risk premia are identified under the assumption that policy expectations level out after a long enough horizon. The results provide evidence that the risk premia on these futures contracts vary over time. The impact of this variation is fairly limited for futures contracts with short horizons, but it increases as the horizon of the contracts lengthens. © 2004 Wiley Periodicals, Inc. Jrl Fut Mark 24:733,754, 2004 [source]


Options on bond futures: Isolating the risk premium

THE JOURNAL OF FUTURES MARKETS, Issue 2 2003
Robert G. Tompkins
The introduction of unspanned sources of risk (and frictions) implies that option prices include a risk premium. Prima facie evidence of the existence of risk premia in option prices is contained in the implied volatility smile patterns reported in the literature. This article isolates the risk premium (defined as the simple difference between estimated and observed option prices) on options on U.K. Gilts, German Bunds, and U.S. Treasury bond futures using models that include price jumps and stochastic volatility. This study finds that single and multi-factor stochastic volatility models with jumps may explain the empirical regularities observed in bond futures. © 2003 Wiley Periodicals, Inc. Jrl Fut Mark 23:169,215, 2003 [source]