EFMA

European Financial Management 2002 Archive


March 2002, VOL 8:1 June 2002, VOL 8:2 September 2002, VOL 8:3 December 2002, VOL 8:4


European Financial Management, VOL 8:1 March 2002



Short-Run Returns Arond the Trades of Corporate Insiders on the London Stock Exchange

Sylvain Friederich, Alan Gregory, John Matatko and Ian Tonks
Financial Markets Group, London School of Economics and Universite de Paris - I.
School of Business and Management, University Of Exeter.
Department of Economics, University of Bristol.

Abstract
Previous work examined the long-run profitability of strategies mimicking the trades of company directors in the shares of their own company, as a way of testing for market efficiency. The current paper examines patterns in abnormal returns in the days around these on the London Stock exchange.
We find movements in returns that are consistent with the directors engaging in short-term market timing. We also report that some types of trades have superior predictive content over future returns. In particular, medium-sized trades are more informative for short-term returns than large ones, consistently with Barclay and Warner's(1993) "stealth trading" hypothesis whereby informed traders avoid trading in blocks.
Another contribution of this study is to properly adjust the abnormal return estimates for microstructure (spread) transactions costs using daily bid-ask spread data. On a net basis, we find that abnormal returns all but disappear.

Keywords: market efficiency, corporate insiders, insider trading, informed trading, London Stock Exchange

JEL Classification: G14



Backtesting Derivative Portfolios with Filtered Historial Simulation(FHS)

Giovanni Barone-Adesi, Kostas Giannopoulos and Les Vosper
Usi, via Buffi 13, Lugano 6900 Switzerland.
University of Westminster, London, UK
The London Clearing House, Aldgate High Street, London, UK.

Abstract
Filtered historical simulation provides the general framework to our backtests of portfolios of derivative securities held by a large sample of financial institutions. We allow for stochastic volatility and exchange rates. Correlations are preserved implicitly by our simulation procedure. Options are repriced at each node. Overall results support the adequacy of our framework, but our VaR numbers are too high for swap portfolios at long horizons and too low for options and futures portfolios at short horizons.

Keywords: Value-at-risk; historical simulation; GARCH.

JEL Classification: G19



Estimating Systematic Risk Using Time Varying Distributions

Gregory Koutmos and Johan Knif
Charles F. Dolan School of Business, Fairfield University, Fairfield, CT,06430, USA
Hansen, Swedish School of Business and Economic Administration, P.O.Box#287, FIN-65101, Vasa Finland.

Abstract
This article proposes a dynamic vector GARCH model for the estimation of time-varying betas. The model allows the conditional variances and the conditional covariance between individual portfolio returns and market portfolio returns to respond asymmetrically to past innovations depending on their sign. Co variances tend to be higher during market declines. There is substantial time variation in betas but the evidence on beta Asymmetry is mixed. Specifically, in fifty percent of the cases betas are Higher during market declines and for the remaining fifty percent the opposite is true. A time series analysis of estimated time varying betas reveals that they follow stationary mean-reverting processes. The average degree of persistence is approximately four days. It is also found that the static market model overstates non-market or, unsystematic risk by more than ten percent. On the basis of an array of diagnostics it is confirmed that the vector GARCH model provides a richer framework for the analysis of the dynamics of systematic risk.

Keywords: dynamic betas; mean-reversion in betas; asymmetric covariance; time-varying distributions; vector GARCH;

JEL classification: G12, G15



European Mutual Fund Performance

Roger Otten and Dennis Bams
Maastricht University and FundPartners, PO BOX 616 6200 MD Maastricht, The Netherlands
Maastricht University and ING Group, PO BOX 616 6200 MD Maastricht, The Netherlands.

Abstract
This paper presents an overview of the European mutual fund industry and investigates mutual fund performance using a survivorship bias controlled sample of 506 funds from the 5 most important mutual fund countries. The latter is done using the Carhart (1997) 4-factor asset-pricing model. In addition we investigate whether European fund managers exhibit hot hands, persistence in performance. Finally the influence of fund characteristics on risk-adjusted performance is considered. Our overall results suggest that European mutual funds and especially small cap funds are able to add value, as indicated by their positive after cost alphas. If we add back management fees, 4 out of 5 countries exhibit significant out-performance at an aggregate level. Finally, we detect strong persistence in mean returns for funds investing in the United Kingdom. Our results deviate from most US studies that argue mutual funds under-perform the market by the amount of expenses they charge.

Key words: Mutual Funds, Performance Evaluation, Portfolio Management, Style Analysis

JEL Classification: G12, G20, G23



PROFESSIONAL FORUM

The New Basel Capital Accord: Making it Effective with Stronger Market Discipline

Harald Benink and Clas Wihlborg
Rotterdam School of Management, Erasmus University Rotterdam,P.O. Box 1738, 3000 DR Rotterdam, The Netherlands
Department of Finance, Copenhagen Business School, Solbjerg Plads 3, DK-2000 Frederiksberg, Denmark & School of Economics and Commercial Law, Gothenburg University, Sweden

Abstract
In January 2001 the Basel Committee on Banking Supervision proposed a new capital adequacy framework to respond to deficiencies in the 1988 Capital Accord on credit risk. The main elements or “pillars” of the proposal are capital requirements based on the internal risk-ratings of individual banks, expanded and active supervision and information disclosure requirements to enhance market discipline. We discuss the incentive effects of the proposed regulation. In particular, we argue that it provides incentives for banks to develop new ways to evade the intended consequences of the proposed regulation. Supervision alone cannot prevent banks from “gaming and manipulation” of risk-weights based on internal ratings. Furthermore, the proposed third pillar to enhance market discipline of banks’ risk-taking is too weak to achieve its objective. Market discipline can be strengthened by a requirement that banks issue subordinated debt. We propose a first phase for introducing a requirement for large banks to issue subordinated debt as part of the capital requirement.

Key words: asset pricing, general equilibrium, value-at-risk, risk management.

JEL classification: G11, G12



European Financial Management, VOL 8:2, June 2002



Neoclassical Finance, Alternative Financeand the Closed End Fund Puzlle

Stephen A. Ross

Keynote Address at the European Financial Management Association 2001 Annual Meetings, Lugano Switzerland, June 2001.



The Effect of VaR Based Risk Management on asset and the Volatility Smile

Arjan Berkelaar, Phornchanok Cumperayot and Roy Kouwenberg

Abstract
Value-at-Risk (VaR) has become the standard criterion for accessing risk in the financial industry. Given the widespread usage of VaR, it becomes increasingly important to study the effects of VaR based risk management on the prices of stocks and options. We solve a continuous-time asset pricing model, based on Lucas (1978) and Basak and shapiro ( 2001), to investigate these effects. We find that the presence of risk manegements tends to reduce market volatility, as intended. Howeverl, in some cases VaR risk management undesirably raises the probablity of extreme losses. Finally, we demonstrate that option prices in an economy with VaR risk managers display a volatility smile.

Key words: Mutual Funds, Performance Evaluation, Portfolio Management, Style Analysis

JEL classification: G11, G12



Board Overlap, Seat Accumulation and Share Prices

Claudio Loderer and Urs Peyer

Abstract
We examine the board overlap among firms listed in Switzerland. Collusion, managerial entrenchment and financial participation cannot explain it. The overlap appears to be induced by banks and by the accumulation of seats by the most popular directors. We also document that seat accumulation is negatively related to firm value, possibly because of the conflicts of interest that multiple directorships induce and the time constraints directors face. Contrary to popular beliefs, however, the directors of traded firms do not generally hold more than one mandate in other traded firms. They do hold multiple seats in nontraded firms.

Key words: Board of Director, Board Overlap, Board Composition, Firm Value

JEL classification: G34



Planning Your Own Debt

Soren Nielson and Rolf Poulsen

Abstract
We model the Danish market for mortgage backed securities with a two-factor interest re=ate model and use a stochastic programming approach to analyse now an individual home-owner should initially compose and subsequently readjust his mortgage in an optimal way. Results show that the "rules of thumb" used by financial institutions are reasonable, although best suited formore aggressive mortgagors, for whom the delivery option of some value. More risl-averse investors should also re-adjust frequently, but use more diversified portfilios. Results are insensitive to whether one or two factor model is used, provided the former is suitably calibrated.

Key words: Term structure of interest, mortgage-backed securities, portfolio choice, stochastic programming.

JEL classification: C61, D81, E43, G11, G21



Dispersion in Analyst Forecasts and the Profitability of Earnings Momentum Strategies

Andreas Dische

Abstract
This paper shows that the dispersion in analysts' consensus forecasts contains incremental information to predict future stock returns. Consistent with prior research, stock prices in the German market underreact to news about future earnings and drift in the direction suggested by analysts' forecasts revisions. Even higher abnormal returns can be achieved by applying such an earnings momentum strategy to stocks with a low dispersion in analyst forecasts. These results support one of the recent behavioral models in which investors underweight new evidence and conservatively update their beliefs in the right direction, but by too little in magnitude with respect to more objective information.

Keywords: analyst forecasts, dispersion, momentum, underreaction, investor behavior.

JEL classification: G12, G14



European Financial Management, VOL 8:3 September 2002



Performance and Policy of Foundation-Owned Firms in Germany

Markus Herrmann and Gunter Franke

Abstract
This paper compares performance and policy of foundation owned firms and of listed corporations in Germany. Foundations have no owners so that there exist no natural persons with financial ownership claims on firms which are wholly owned by foundations. This suggests weaker outside control of foundation owned firms implying lower profitability. The empirical findings show a slightly better performance of foundation owned firms compared to corporations. Foundation owned firms display higher labor intensity, lower labor productivity and lower salary levels. This policy promotes job security without endangering the viability of foundation owned firms.

Keywords: corporate governance, foundation owned firms, performance, business policy, ownership structure.

JEL Classification: G30 - G33



Diversification, Ownership and Control of Swedish Corporations

John A. Doukas, Martin Holmen and Nickolaos G. Travlos*

Abstract
We study the short- and long-term valuation effects of Swedish takeovers. Using a sample of 93 bidding firms that acquired 101 targets between 1980 and 1995, we find that diversifying acquisitions lead to a negative market reaction and deterioration of the operating performance of the bidder. Announcement and performance gains in each of the three years following the acquisition occur only when bidders expand their core than their peripheral lines of business. Our findings suggest that focused acquisitions lead to greater synergies and operating efficiencies than diversifying acquisitions. Intra-group acquisitions, however, show that bidders do not realize significant gains whether they adopt diversifying or focusing investment strategies by purchasing firms controlled by the Wallenberg and SHB conglomerate groups. Intra-group targets realize significant gains regardless bidder’s investment strategy. Finally, the evidence does not support the view that intra-conglomerate acquisitions are associated with expropriation of minority shareholders. However, they appear to enhance the control rights of large shareholders of the bidding firm.

Keywords: Conglomerate and Non-conglomerate Acquisitions; Corporate Focus; Diversification

JEL classification: G34



External Financing Costs and Economies of Scale in Investment Banking: The Case of Seasoned Equity Offerings in Germany

Thomas Buhner and Christoph Kaserer

Abstract
This paper is focused on the cost of raising equity capital in Germany. In the spirit of Altinkilic and Hansen (2000) it challenges the conventional wisdom that flotation costs are characterized by economies of scale.
For a sample of 120 SEOs on the German capital market over the years 1993-1998 it is found that average total flotation costs amount to 1.61 percent of gross proceeds, while average underwriting fees are about 1.32 percent. Moreover, it turns out that flotation costs rise the larger the free float of the company is and the larger the share of stocks offered within a firm commitment cash offering is. As far as the economies of scale view is concerned, we do not find clear evidence in favour of decreasing marginal flotation costs. Moreover, fixed costs seem not to be very high in that they account on average for not more than 14 to 24 percent of total flotation costs or total underwriting fees, respectively.

Keywords: raising capital, seasoned equity offerings, underwriting fees, economies of scale, German stock market

JEL Classification: G24



Stock Index-Linked Debt and Shareholder Value: Evidence from the Paris Bourse

Gordon S. Roberts, Vasumathi Vijayraghavan and Sebouh Aintablian

Abstract
French banks and nonfinancial companies issue index-linked debt whose value at maturity is indexed to the CAC 40 or to a basket of European indices. This paper examines stock announcement effects associated with these bonds on three dates: the date the issuer&88217;s General Assembly decides future capital needs, the publication in the journal of the COB (the stock market board) and the issue date. We find the issuance of index-linked debt has significant positive announcement effects on the issue date, which we attribute to its market-completion property. In order to examine further whether market completion is at play, we decompose the value of the bond at issue into its straight bond and option values. We determine that the bonds are overvalued again supporting market completion.

Keywords: announcement effect, index-linked debt, market completion

JEL Classification: G14, G32



The Distribution of Information Among Institutional and Retail Investors in IPOs

Matti Keloharju and Sami Torstila

Abstract
This study examines investor performance in IPOs using a unique database comprising 85,384 investors and 29 offerings from Finland. The evidence indicates that on average institutional investors do not obtain larger initial returns than retail investors, as the incentive to acquire information is limited by allocation rules which favour small orders. This result is in contrast to findings by Aggarwal et al. (2001), who show that institutional investors perform better in a bookbuilding environment. Within each investor category, however, large orders are associated with the best performance, suggesting that information differences figure more importantly within rather than between categories.

Key words: IPOs, investment performance, institutional investors, retail investors

JEL classification: G32, G14



PROFESSIONAL FORUM


Anatomy of the Eurobond Market 1980-2000

Anouk Claes, Marc J.K. De Ceuster, Ruud Polfliet
University of Antwerp UFSIA, Prinsstraat 13, 2000 Antwerp, Belgium

Abstract
In this paper, we provide descriptive evidence of primary market activity in the Eurobond market for the period 1980-2000. This study explores the Bondware Database that contains 33 024 publicly issued Eurobonds. We analyse some characteristics of the issuers (nationality, industry and credit quality), the intermediary parties (bookrunners, lead managers) and the structures used for the bonds (currencies, size, years to maturity, interest and repayment structure, embedded options).

Keywords: Eurobond market, primary market, Bondware

JEL Classification: G15, G100


European Financial Management, VOL 8:4 December 2002


Competition on the London Stock Exchange

Nicholas Taylor

Abstract
This paper investigates the determinants of the level of competition on the order-driven market organised by the London Stock Exchange. In contrast to previous empirical market microstructure studies, we treat the level of competition as an endogenous variable. The statistical nature of the measures of competitive activity used in this paper necessitate use of a count regression model. Using a sample of 50 stocks, we find that users of the system tend to follow the lead of other users (termed the 'herding effect') and that competition is greater during the period when the US exchanges are open (termed as 'US effect'). In addition, the level of competition is positively related to the bid-ask spread pertaining to a particular stock (termed the 'spread effect'). The latter result is most likely due to traders following a strategy where trade immediacy is traded off against price advantage. Finally, we find that the magnitude of the herding effect, the spread effect and the fit of the count regression models (termed the 'fit effect') vary in a predictable manner across the liquidity of stocks.

Keywords: Count models, competition, limit-orders, liquidity. P>JEL Classification: G14; C32



The Impact of Macroeconomic and Financial Variables on Market Risk: Evidence from International Equity Returns

Dilip K. Patro, John K. Wald and Yangru Wu*

Abstract
Using a GARCH approach, we estimate a time-varying two-factor international asset pricing model for the weekly equity index returns of 16 OECD countries. We find significant time-variation in the exposure (beta) of country equity index returns to the world market index and in the risk-adjusted excess returns (alpha). We then explain these world market betas and alphas using a number of country-specific macroeconomic and financial variables with a panel approach. We find that several variables including imports, exports, inflation, market capitalization, dividend yields and price-to-book ratios significantly affect a country’s exposure to world market risk. Similar conclusions are obtained by using lagged explanatory variables and thus these variables may be useful as predictors of world market risks. Several variables also significantly impact the risk-adjusted excess returns over this time period. Our results are robust to a number of alternative specifications. We further discuss some economic hypotheses that may explain these relationships.

Keywords: World market risk; Determinants of country risk exposure; Panel estimation

JEL classification: F30, G12



Yield Spread and Term to Maturity: Default vs. Liquidity

Antonio Diaz and Eliseo Navarro

Abstract
The aim of this paper is the analysis of the yield spreads between Treasury and non-Treasury Spanish fixed income assets and its relationship with the term to maturity. We find a downward sloping term structure of yield spreads for investment-grade bonds that seems to be contrary to the crisis at maturity theory. However, we claim that this outcome is caused mainly by the effect of liquidity on yield spreads. Once the effect of liquidity and other factors are removed we find that there is a positive relationship between default premiums and term to maturity. That result is now consistent with the existing literature.

Keywords: Corporate bonds; Yield spread; Default risk; Liquidity; Term to maturity market

JEL Classification: G10, E43



Valuation Effects of Listing on a More Prominent Segment of the Stock Market

J. F. Bacmann, M. Dubois and C. Ertur

Abstract
We examine the behaviour of stock prices during the period around the transfer to the March a Reglement Mensuel. First, we discuss the financial reasons, which can justify abnormal returns around the transfer. Second, an event study based on a sample of 71 firms is set up to test the existence of the exchange listing effect on the French market. Third, we explore three hypotheses in order to explain the impact on stock returns: the informative content of the transfer, the increase in the relative size of the firm’s investor base and the reduction of trading costs (immediacy and adverse selection). Cross-sectional regressions show that the increase in the relative size of the firm’s investor base is the only variable, which helps to explain the valuation effect.

Keywords: Exchange listing, event study, analyst following, liquidity, trading activity, systematic risk, firm’s investor base.

JEL Classification: G12, G14



Extracting Information from Options Markets: Smiles, State-Price Densities and Risk-Aversion

Christophe Perignon and Christophe Villa

Abstract
In this paper, recent techniques of estimating implied information from derivatives markets are presented and applied empirically to the French derivatives market. We determine nonparametric implied volatility functions, state-price densities and historical densities from a high-frequency CAC 40 stock index option dataset. Moreover, we construct an estimator of the risk-aversion function implied by the joint observation of the cross-section of option prices and time-series of underlying asset value. We report a decreasing implied volatility curve with the moneyness of the option. The estimated relative risk-aversion functions are positive and globally consistent with the decreasing relative risk-aversion assumption.

Key words: Risk-aversion; state-price density; non-parametric methods

JEL classification: G12, G13, C13



A Note on the Three-Portfolio Matching Problem

Fabio Trojani, Paolo Vanini and Luigi Vignola

Abstract
A typical problem arising in the financial planning for private investors consists in the fact that the initial investor’s portfolio, the one determined by the consulting process of the financial institution and the universe of instruments made available to the investor have to be matched/optimized when determining the relevant portfolio choice. We call this problem the three-portfolios matching problem. Clearly, the resulting portfolio selection should be as close as possible to the optimal asset allocation determined by the consulting process of the financial institution. However, the transition from the investor’s initial portfolio to the final one is complicated by the presence of transaction costs and some further more specific constraints. Indeed, usually the portfolios under consideration are structured at different aggregation levels, making portfolios comparison and matching more difficult. Further, several investment restrictions have to be satisfied by the final portfolio choice. Finally, the arising portfolio selection process should be sufficiently transparent in order to incorporate the subjective investor’s trade-off between the objectives ’optimal portfolio matching’ and ’minimal portfolio transitbute to its market-completion property. In order to examine further whether market completion is at play, we decompose the value of the bond at issue into its straight bond and option values. We determine that the bonds are overvalued again supporting market completion.

Keywords: announcement effect, index-linked debt, market completion

JEL Classification: G14, G32