David Hobson (University of Warick)
About David Hobson
Title: Randomized Strategies and Prospect Theory in a Dynamic Context
Abstract:
Cumulative prospect theory (CPT) helps explain many features of individuals' attitudes to risk. But, as observed by Barberis (2012), in a dynamic setting the probability weighting of CPT leads to time inconsistency. It also leads to another feature which has not been considered to date - agents may prefer randomized strategies to pure strategies. In this paper we consider the impact of allowing CPT agents to follow randomized strategies. In the discrete-time, discrete-space model of gambling in a casino of Barberis (2012) we show that allowing randomized strategies leads to significant value gains. In a continuous-time, continuous-space model of Ebert and Strack (2014) we show that allowing randomization can significantly change the predictions of the model. Ebert and Strack show that a naive investor with CPT preferences never chooses to stop and gambles until the bitter end. We show that this extreme conclusion is no longer valid if the agent has a coin in his pocket.
Date: Thursday 22nd January, 12:30 - 13:30
Event Location: Lecture Theatre 3, Cambridge Judge Business School
Pierre Mella-Barral (EDHC Business School)
Title: The Excessive Creation of Sequel Firms
Abstract:
When an inventing firm does not exploit itself, but sells an innovation, it internalizes the value of exploiting this innovation in a newly created firm. Such a sequel firm has however the ability to contract separately. As the research production of a firm suffers from a moral hazard in team problem, it is then worthwhile for the sequel firm to build its' own research team, in order to compete for further innovations. So selling an innovation, the innovating firm also looses some likelihood of making future innovations. This imposes a negative externality on the innovating firm. We construct a model which captures this trade-off and the resulting dynamics of sequel firm creation. We compare the equilibrium frequency of firm creation with the first-best. There is predominantly "excessive" creation of firms, particularly in young industries. Inefficiencies fade away as the industry develops. This helps explaining the empirical observation that the frequency of sequel firm creation, as well as the focus of firms, decrease with the age of the industry.
Date: Thursday 5th February, 13:00 - 14:00
Event Location: 10 Trumpington Street (Lower Ground Floor)
Joel Shapiro (University of Oxford)
About Joel Shapiro
Title: Credit Ratings and Structured Finance
Abstract:
The poor performance of credit ratings on structured finance products has prompted investigation into the role of Credit Rating Agencies (CRAs) in designing and marketing these products. We analyze a two-period reputation model where a CRA both designs and rates securities that are sold to different clienteles: un-constrained investors and investors constrained by minimum quality requirements.When quality requirements for constrained investors are higher, rating inflation increases. Rating inflation decreases if the quality of the asset pool is higher. Securities for both types of investors may have inated ratings. The motivation for pooling assets derives from tailoring to clienteles and from reputational incentives.
Date: Thursday 19th February, 13:00 - 14:00
Event Location: 10 Trumpington Street (Lower Ground Floor)
M. Edouard Challe (Ecole Polytechnique)
About M. Edouard Challe
Title: Precautionary saving and aggregate demand
Abstract:
How do fluctuations in households’ precautionary wealth contribute to the propagation of aggregate shocks? In this paper, we attempt to answer this question by formulating and estimating a tractable structural model of the business cycle with incomplete insurance against idiosyncratic risk, nominal frictions, and involuntary unemployment. Time-variations in precautionary wealth have two conflicting effects on output volatility: a stabilizing “aggregate supply” effect working through the supply of capital and potential output; and a destabilizing “aggregate demand effect” working through aggregate consumption and the output gap. We quantify these forces via a maximum-likelihood estimation of the structural parameters of the model, using as observables both aggregate and cross-sectional information (such as the extent of consumption insurance and the distributions of wealth and consumption across households). We find the impact of demand shocks on aggregates to be significantly altered by time-varying precautionary savings.
Date: Thursday 5th March, 13:00 - 14:00
Event Location: Room W4.06, Cambridge Judge Business School
Denis Gromb (INSEAD)
Title: Financially Constrained Arbitrage and Cross-Market Contagion
Abstract:
We propose a continuous time infinite horizon equilibrium model of financial markets in which arbitrageurs have multiple valuable investment opportunities but face financial constraints. The investment opportunities, heterogeneous along different dimensions, are provided by pairs of
similar assets trading at different prices in segmented markets. By exploiting these opportunities, arbitrageurs alleviate the segmentation of markets, providing liquidity to other investors by intermediating their trades. We characterize the arbitrageurs’ optimal investment policy, and derive implications for market liquidity and asset prices. We show that liquidity is smallest, volatility is largest, correlations between asset pairs with uncorrelated fundamentals are largest, and correlations between asset pairs with highly correlated fundamentals are smallest for intermediate levels of arbitrageur wealth.
Date: Thursday 30th April, 13:00 - 14:00
Event Location: Room W4.03, Cambridge Judge Business School
Anthony Saunders (NYU Stern)
About Anthony Saunders
Title: Mind the Gap: The Difference between US and European Loan Rates
Abstract:
Carey and Nini (2007) provide evidence that interest rate spreads on syndicated loans differed systematically between the European and the US market during the 1992 to 2002 period. Loan spreads in Europe are, on average, about 30 basis points smaller than in the US. We show that accounting for unused fees (AISU) fully explains the pricing puzzle for lines of credit. While European borrowers pay a significantly lower AISD, they also pay a significantly higher AISU. For term loans, we document a systematic selection effect: Firms with high borrowing costs in the market for lines of credit as measured via the AISD and AISU are more likely to also be active in the term loan market. This selection effect is significantly smaller in Europe and explains 50-90% of the pricing difference between US and European term loans. These results are consistent with commitments being exclusively provided by banks, while term funding is subject to a selection effect depending on the availability of outside options for borrowing via bond markets.
Date: Wednesday 6th May, 13:00 - 14:00
Event Location: 10 Trumpington Street (lower ground)
Carlos M. Carvalho (University of Texas)
Title: On the Long Run Volatility of Stocks
Abstract:
In this paper we investigate whether or not the conventional wisdom that stocks are more attractive for long horizon investors hold. Taking the perspective of an investor, we evaluate the predictive variance of k-period returns for different models and prior specifications and conclude, that stocks are indeed less volatile in the long run. Part of the developments include an extension of the modeling framework to incorporate time varying volatilities and covariances in a constrained prior information set up.
Date: Thursday 14th May, 13;00 - 14:00
Event Location: Room W4.03, Cambridge Judge Business School
John Cotter (University College Dublin)
Title: Can Metropolitan Housing Risk Be Diversified? A Cautionary Tale from the Recent Boom and Bust
Written in collaboration with Stuart Gabriel and Richard Roll.
Abstract:
This study evaluates the effectiveness of geographic diversification in reducing housing investment risk. To characterize diversification potential, we estimate spatial correlation and integration among 401 US metropolitan housing markets. The 2000s boom brought a marked uptrend in housing market integration associated with eased residential lending standards and rapid growth in private mortgage securitization. As boom turned to bust, macro factors, including employment and income fundamentals, contributed importantly to the trending up in housing return integration. Portfolio simulations reveal substantially lower diversification potential and higher risk in the wake of increased market integration.
Date: Thursday 11th June, 13:00 14:00
Event Location: Room W4.03, Cambridge Judge Business School
Ke Tang (Tsinghua University)
Title: Commodities as Collateral
Abstract:
This paper proposes and tests a theory of using commodities as collateral for financing. Under capital control and collateral constraint, financial investors import commodities and pledge them as collateral to earn a risk premium. The collateral demand for com- modities increases commodity prices globally; it also increases commodity futures risk premium in the importing country but reduces that in the exporting country. Evidence from eight commodities in China and developed markets supports the theoretical pre-dictions, and the effects are economically large. Our theory and evidence complement
the theory of storage and provide new insights on the financialization of commodity markets.
Date: Tuesday 8th September, 12:00 - 13:00
Event Location: Room W4.03, Cambridge Judge Business School
Brent W. Ambrose (Pennsylvania State University)
Title: Credit Rationing, Income Exaggeration, and Adverse Selection in the Mortgage Market
Abstract:
We examine the role of borrower concerns about future credit availability in mitigating the effects of adverse selection and private information in the mortgage market in the run-up to the foreclosure crisis of 2007 to 2010. We develop a simple theoretical model to motivate our empirical analysis. Our results show that the majority of additional risk associated with ``low-doc'' mortgages is due to adverse selection on the part of borrowers who could verify income, but chose not to. We provide evidence that these borrowers, who tend to live in relatively low-income neighborhoods, are more likely to inflate or exaggerate their income. Our paper contributes to the debate concerning income overstatement and mortgage credit expansion by extending the analysis of borrower income misrepresentation and adverse selection observed across mortgage types and borrower employment status. By focusing on differences in employment status, we show that the majority of adverse selection and income falsification is confined to a specific borrower group that was never intended to utilize the low-documentation product. Thus, our results show that broad policies designed to eliminate activities associated with excesses in mortgage originations during the housing boom may have unintended consequences.
Date: Thursday 15th October, 13:00 - 14:00
Event Location:
Room W4.03, Cambridge Judge Business School
Raman Uppal (EDHEC Business School)
Title: Portfolio Choice with Model Misspecification: A Foundation for Alpha and Beta Portfolios
Abstract:
Hedge funds such as Bridgewater Associates o↵er two kinds of portfolios: “alpha”portfolios (a strategy with both long and short positions with overall zero market risk)and “beta” portfolios (a long-only strategy with exposure to market risk); similarly,sovereign wealth funds such as Norges Bank separate the management of their alpha and beta funds. Moreover, hedge funds and sovereign funds hold a large number of assets in their portfolios, ranging from several hundred to thousands (the portfolio of Norges Bank has over 9,000 assets). In this paper, we provide a rigorous foundation for “alpha” and “beta” portfolio strategies and characterize their properties when the number of assets is asymptotically large and returns are given by the Arbitrage Pricing Theory (APT). The APT is ideal for this analysis because it allows for alphas, while still imposing no arbitrage. Our first contribution is to extend the interpretation of the APT to show that it can capture not just small pricing errors that are independent of factors but also large pricing errors that arise from mismeasured or missing factors. Our second contribution is to show that under the APT, the optimal mean-variance portfolio in the presence of a risk-free asset can be decomposed into two components: an “alpha” portfolio that depends only on pricing errors and a “beta” portfolio that depends only on factor risk premia and their loadings. We then demonstrate that the alpha portfolio is the minimum-variance portfolio that is orthogonal to the beta portfolio, and vice versa, `a l a Roll (1980). This optimality property implies that the alpha and beta portfolios satisfy properties similar to those of the optimal mean-variance portfolio in terms of the relation between portfolio mean and variance. Moreover, their optimality implies that the squares of their Sharpe ratios sum to the square of the Sharpe ratio of the optimal mean-variance portfolio. Our third contribution is to characterize alpha and beta portfolios when the number of assets is asymptotically large: in this setting, we show that the portfolio weights of the alpha portfolio typically dominate the weights of the beta portfolio. We obtain similar decompositions and asymptotic results for the tangency portfolio, the global-minimum-variance portfolio, and the portfolios that comprise the Markowitz efficient frontier. Our fourth contribution is to show how these results about the decomposition of various portfolio weights, together with the restriction arising from the extended APT, can and should be used to improve the estimation of portfolio weights in the presence of model misspecification.
Date: Thursday 29th October, 13:00 - 14:00 in Room W4.03, Cambridge Judge Business School
Qiusha Peng (Cambridge Judge Business School)
Title: Noisy Rational Bubbles
Abstract:
This paper develops a novel theory of price dynamics during bubble-like episodes in a tractable noisy rational expectations model with endogenous investor inflows. The unique linear partially revealing rational expectations equilibrium features a dramatic non-fundamental rise and fall of asset prices driven by speculation. Two layers of uncertainty---uncertainty about the fundamental value and uncertainty regarding the probability with which the fundamental value is fully revealed in each period, can generate the hump shape in prices. Gradual investor inflows can greatly amplify price movements. Simulation results show that the model equilibrium can produce various real-life bubble-like events.
Date: Thursday 12th November, 13:00 - 14:00
Event Location: Room W4.03, Cambridge Judge Business School
Susan Christoffersen (Rotman)
About Susan Christoffersen
Title: Why Do Institutions Delay Reporting Their Shareholdings? Evidence from Form 13F
Abstract:
Institutional investors are allowed to delay their disclosures of quarter-end holdings via form 13F for up to 45 days. This forbearance may help protect the institutions from potentially damaging behavior by other traders, in particular from free-riding copycatters and from front-runners. It also may help the institutions hide their voting power, and this has prompted public corporations to request a much shorter maximum reporting lag. We look at 14 years of 13F filings to gauge the role of these three motives in the decision to delay disclosure, and the results indicate that front-running and voting, but not copycatting, motivate delays.
Date: Thursday 26th November, 13:00 - 14:00
Event Location: Room W2.02, Cambridge Judge Business School