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1 – 10 of over 4000Amid benign monetary policy in mature market countries and high liquidity‐induced demand, lower risk premia have encouraged risk diversification into alternative asset classes…
Abstract
Purpose
Amid benign monetary policy in mature market countries and high liquidity‐induced demand, lower risk premia have encouraged risk diversification into alternative asset classes outside the scope of conventional investment. The development of derivative markets in emerging economies plays a special role in this context as more institutional money is managed on a global mandate, with more and more capital being dedicated to emerging market equity. This paper aims to focus on these issues.
Design/methodology/approach
This paper reviews the recent development of equity derivative markets in emerging Asia and informs a critical debate about market practices and prudential supervision. Goal of the paper is also to outline essential elements and key policy considerations in developing derivative markets.
Findings
The supervision of emerging derivative markets depends on the expedient and tractable resolution of challenges arising from consistent risk management, risk mutualization, and prudential standards that guarantee market stability in crisis situations. In particular, further efforts are needed in areas of cash market liquidity, trading infrastructure as well as legal and regulatory frameworks based on a set of coherent principles for capital market development.
Originality/value
The paper offers a comprehensive set of principles for the development of equity derivative markets based on the current state of equity derivative trading in emerging Asia. Given current efforts by national regulators in the region to implement comprehensive guidelines on derivatives and revise short selling restrictions, the scope of this paper has topical appeal from the perspective of market participants and regulators.
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To propose a new methodology to infer the risk‐neutral default probability curve of a generic firm XYZ from equity options prices.
Abstract
Purpose
To propose a new methodology to infer the risk‐neutral default probability curve of a generic firm XYZ from equity options prices.
Design/methodology/approach
It is assumed that the market is arbitrage‐free and the “market” probability measure implied in the equity options prices to the pricing of credit risky assets is applied. First, the equity probability density function of XYZ is inferred from a set of quoted equity options with different strikes and maturities. This function is then transformed into the probability density function of the XYZ assets and the term structure of the “option implied” XYZ default probabilities is calculated. These default probabilities can be used to price corporate bonds and, more generally, single‐name credit derivatives as “exotic” equity derivatives.
Findings
Equity derivatives and credit derivatives have ultimately the same (unobservable) underlying, the XYZ assets value. A model that considers any security issued by XYZ as derivatives on the firm's assets can be used to price these securities in a consistent way to each other and/or detect relative/value opportunities.
Originality/value
The paper offers both a pricing tool for traded single‐name credit risky assets or a relative value tool in liquid markets.
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Biplab Kumar Guru and Inder Sekhar Yadav
This study empirically examines the effect of capital controls on the volume and composition of capital flows at aggregated as well as at disaggregated level by different asset…
Abstract
Purpose
This study empirically examines the effect of capital controls on the volume and composition of capital flows at aggregated as well as at disaggregated level by different asset classes such as debt, FDI, equity, and derivatives.
Design/methodology/approach
Several dynamic panel SYS-GMM models are employed on two sets of unique data on cross-border capital flows and capital control index along with control variables at aggregated and disaggregated level by different asset classes during 1995–2015 for a sample of 31 Asian economies.
Findings
Econometric findings suggest that higher capital controls effectively reduce gross capital flows. The reduction in gross capital flows is largely found to be on account of effectiveness of controls on equity flows. However, the impact of controls on overall debt and derivative flows is found to be insignificant. Further, it was found that an increase in direct capital controls disaggregated by inflow and outflow categories significantly reduced the inflow of debt and equity + FDI flows and outflow of equity + FDI and derivative flows. Finally, the study did not find any substitution effect (due to indirect controls) and net effect on capital flows.
Practical implications
Results of such empirical examination may enable governments in respective countries to pursue prudent and rational capital controls as a shield against capital flight and shock transmission.
Social implications
Preventing capital flight through effective controls has macroeconomic benefits such as maintaining stability in income, growth, interest rate, exchange rate, and employment levels for the society.
Originality/value
The primary contribution of the study is the analysis of effectiveness of capital controls disaggregated by different asset categories such as debt, equity, FDI, and derivatives using two unique recent data sets for a large sample of Asian economies.
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This paper seeks to analyze the impact on companies' governance of corporate ownership interests hidden through cash‐settled equity derivatives.
Abstract
Purpose
This paper seeks to analyze the impact on companies' governance of corporate ownership interests hidden through cash‐settled equity derivatives.
Design/methodology/approach
The paper outlines the definition and use of cash‐settled derivatives and describes the recent proposal of the Italian financial regulator to extend disclosure obligations of significant shareholdings to positions held through cash‐settled derivatives.
Findings
Given the structure of Italian companies and the proven risk of evasion through cash‐settled derivatives, it should be advisable to extend the concept of a major shareholding for mandatory bid purposes to this kind of instrument. Moreover, recent cases have shown that the lack of a common worldwide disclosure regime for cash‐settled derivatives could result in misleading information and in turn in a lack of confidence by investors and an increase in the costs of raising capital.
Practical implications
The disclosure regime to be implemented should neither completely ignore cash‐settled equity derivatives nor impose excessive duties that may increase the costs of compliance. It should be empirical and concrete. Ownership disclosure is intended to improve corporate governance by enabling minority shareholders to monitor the abuse of control.
Originality/value
This paper provides practical guidance from an experienced Italian securities lawyer. It explains and supports the Italian regulator's proposal to identify cases in which holdings of derivatives trigger mandatory bid obligation.
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Using data on 5,491 commercial banks in the USA that were operational between 2001 second quarter and 2016 first quarter, the present study aims to examine the impact of derivative…
Abstract
Purpose
Using data on 5,491 commercial banks in the USA that were operational between 2001 second quarter and 2016 first quarter, the present study aims to examine the impact of derivative securities and its different constituent categories on bank-specific risks and profitability.
Design/methodology/approach
The study uses panel data fixed effects model and Bayesian model averaging techniques.
Findings
This study finds aggregate derivatives and both interest-rate and exchange-rate derivatives and their different constituent categories to reduce banks insolvency risks for the entire time period and the pre-crisis era. Moreover, aggregate derivatives increase banks’ risk-adjusted return on assets that are driven by exchange-rate derivatives. Such findings are robust to the size of banks, the degree of derivative use and extent of profitability. However, in the post-crisis period, derivatives reduce bank profits.
Practical implications
While the results largely provide evidence of the beneficial effects of derivatives, the findings for the post-crisis period are rather concerning. It underscores a clear need to improve regulation and supervision across different categories of derivatives to ensure the benefits exceed their costs for banks.
Originality/value
Disaggregate analysis of derivatives can not only unmask important differences in how they affect banks risks, profits, etc. but also help banks mitigate risks arising from specific types of derivative securities banks hold. Furthermore, discerning the impact of derivatives on banks risks and profits in the post-crisis era vis-à-vis the pre-crisis one is extremely important to restore a sounder banking system and foster overall financial stability.
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Robert Martin Hull, Sungkyu Kwak and Rosemary Walker
The article aims to explore if stock derivative types (stock options and stock warrants) are associated with stock returns for firms undergoing seasoned equity offerings (SEOs).
Abstract
Purpose
The article aims to explore if stock derivative types (stock options and stock warrants) are associated with stock returns for firms undergoing seasoned equity offerings (SEOs).
Design/methodology/approach
The authors regress stock returns against stock derivatives for periods around SEO announcements with standard errors clustered at the month level.
Findings
The authors find that lower stock derivatives holdings for the fiscal year after the SEO are associated with superior pre-SEO returns. This can be explained by owners exercising their derivatives to capitalize on the pre-SEO price run-up. The authors find that greater stock option holdings by insiders for the fiscal year after the SEO are associated with superior post-SEO returns for up to ten years after the SEO announcement. This new finding does not hold for stock warrants.
Research limitations/implications
Stock derivatives are supplied by Capital IQ. Given their description, the authors infer that stock options are owned largely by insiders. Thus, the insider conclusions for stock options depend on this implication.
Practical implications
Stock options and stock warrants can be used strategically to reward stock derivative owners of strong performing firms for past performance. Stock options can be used to motivate insiders (primarily key executives) to achieve superior future performance.
Originality/value
This study is unique in comparing the influence of holdings for stock options and stock warrants on stock price performance around SEOs. The authors show that the sign of the association depends on whether the test includes pre-SEO periods.
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Zaminor Zamzamir@Zamzamin, Razali Haron and Anwar Hasan Abdullah Othman
This study investigates the impact of derivatives as risk management strategy on the value of Malaysian firms. This study also examines the interaction effect between derivatives…
Abstract
Purpose
This study investigates the impact of derivatives as risk management strategy on the value of Malaysian firms. This study also examines the interaction effect between derivatives and managerial ownership on firm value.
Design/methodology/approach
The study examines 200 nonfinancial firms engaged in derivatives for the period 2012–2017 using the generalized method of moments (GMM) to establish the influence of derivatives and managerial ownership on firm value. The study refers to two related theories (hedging theory and managerial aversion theory) to explain its findings. Firm value is measured using Tobin's Q with return on assets (ROA) and return on equity (ROE) as robustness checks.
Findings
The study found evidence on the positive influence of derivatives on firm value as proposed by the hedging theory. However, the study concludes that managers less hedge when they owned more shares based on the negative interaction between derivatives and managerial ownership on firm value. Hedging decision among managers in Malaysian firms therefore does not subscribe to the managerial aversion theory.
Research limitations/implications
This study focuses on the derivatives (foreign currency derivatives, interest rate derivatives and commodity derivatives) and managerial ownership that is deemed relevant and important to the Malaysian firms. Other forms of ownership such as state-/foreign owned and institutional ownership are not covered in this study.
Practical implications
This study has important implications to managers and investors. First is on the importance of risk management using derivatives to increase firm value, second, the influence of derivatives and managerial ownership on firm value and finally, the quality reporting on derivatives exposure by firms in line with the required accounting standard.
Originality/value
There is limited empirical evidence on the impact of derivatives on firm value as well as the influence of managerial ownership on hedging decisions of Malaysian firms. This study analyzes the influence of derivatives on firm value during the period in which reporting on derivatives in financial reports is made mandatory by the Malaysian regulator, hence avoiding data inaccuracy unlike the previous studies on Malaysia. This study therefore fills the gap in the literature in relation to the risk management strategies using derivatives in Malaysia.
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David P. Stowell and Theron McLarty
Family members knew something was very wrong when Adolf Merckle, who had guided the family holding company, VEM Vermogensverwaltung GmbH, through dozens of successful investments…
Abstract
Family members knew something was very wrong when Adolf Merckle, who had guided the family holding company, VEM Vermogensverwaltung GmbH, through dozens of successful investments, left the house one afternoon in January 2009 and failed to return. That night their fears were confirmed when a German railway worker located Merckle's body near a commuter train line near his hometown of Blaubeuren, about a hundred miles west of Munich. It was no secret that the recent financial crisis had taken a toll on Merckle's investments. He was known in Germany as a savvy investor, but had lost hundreds of millions of Euros after being caught on the wrong side of a short squeeze of epic proportions involving Volkswagen stock. This was not the only large bet against that company's stock. A number of hedge funds, including Greenlight Capital, SAC Capital, Glenview Capital, Tiger Asia, and Perry Capital, lost billions of Euros in a few hours based on their large short positions in Volkswagen's stock following the news on October 26, 2008, that Porsche AG had obtained a large long synthetic position in Volkswagen stock through cash-settled options. In the next two days, this short squeeze produced a fivefold increase in Volkswagen's share price, as demand for shares from hedge funds exceeded the supply of borrowable shares.
This case focuses on the massive equity derivative positions entered into by Porsche in relation to Volkswagen stock and by TCI and 3G in relation to CSX stock. Students will learn how equity exposure can be created without buying stock and without prior disclosure. The role of regulators, courts, and investment banks that facilitate these transactions is also explored.
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Kirithiga S., Naresh G. and Thiyagarajan S.
The commodity and equity derivatives have a close resemblance between them in trade practices and mechanisms, which makes it easy for the investors to combine these two assets…
Abstract
Purpose
The commodity and equity derivatives have a close resemblance between them in trade practices and mechanisms, which makes it easy for the investors to combine these two assets classes for building up their portfolio. The diversification of investment among asset classes builds some relation between them. The integration of market within a country is necessary to bring in a smooth and balanced economic growth. Thus, the purpose of this paper is to examine the spillover between the equity and commodity futures markets which will be helpful not only for the investors but also for the policy makers, producers and the regulators.
Design/methodology/approach
To examine the spillover between the equity and commodity market, the major benchmarking indices of these markets, namely COMDEX of MCX, Dhaanya of NCDEX and NIFTY 50 of NSE, were chosen. NIFTY 50 index was chosen as representative of equity market due to its composition of most active constituent stocks than any other broad market index of Indian stock market. As the commodity market indices are not been traded, their constituent commodities were taken for the study. Thus, 11 MCX-COMDEX constituents such as Gold, Silver, Copper, Zinc, Aluminum, Nickel, Lead, Crude oil, Natural gas, Kapaskhali and Mentha oil and eight NCDEX-Dhaanya constituents such as Castor seed, Chana, Cotton seed oilcake, Jeera, Mustard seed, Refined soy oil, Turmeric and Wheat futures prices were taken against the NIFTY 50 futures prices with daily trading data for ten years starting from January 1, 2006 till December 31, 2015 to analyze their spillover effect. The return series data were used to test the spillover between equity and commodity futures market as it gives the crux of investors’ diversification through the Vector Autoregression (VAR) model and verified with Impulse Response Function by testing the null hypothesis, H0, that there is no return spillover between the equity and commodity futures market.
Findings
The investors move from equity to commodity when there is a threat in equity market and vice versa, thereby diversify their risk for those commodities which are vulnerable to global and domestic pressures in the economy. Investigating the spillover between equity and commodity market gives an insight of market integration effect. A nation can achieve its economic growth easily when its markets are integrated.
Research limitations/implications
The commodity indices are still notional indices in the market; therefore, individual constituent commodities of commodities indices were considered with the benchmarking equity futures index, which is one of the limitations of the study.
Practical implications
The integration of market within a country is necessary to bring in a smooth and balanced economic growth.
Originality/value
Most of the past studies dealt only with few commodities and equities and not with the broad-based benchmarking indices. This paves way for enquiry into the commodity and equity markets integration with the major constituent commodities traded in the economy. Hence, this paper looks into the presence of spillover between the equity and commodity markets. The VAR model is verified with the impulse response function which explains the reaction of any dynamic system in response to a pulse change in another. The impulse response function is presented graphically for easy and better understanding.
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Jeffrey Royer and Gregory McKee
This paper presents a model for determining the optimal capital structure for cooperatives and explores the relationship between financial leverage and the ability of cooperatives…
Abstract
Purpose
This paper presents a model for determining the optimal capital structure for cooperatives and explores the relationship between financial leverage and the ability of cooperatives to retire member equity.
Design/methodology/approach
A model is developed to determine the optimal capital structure and explore the relationship between capital structure and the rate at which a cooperative can retire member equity. Using data from cooperative financial statements, ordinary least-squares regressions are conducted to test two hypotheses on capital structure and equity retirement.
Findings
The model shows that the optimal capital structure is determined by the ratio of the rate of return on capital employed to the interest rate on borrowed capital and the required level of interest coverage. The regressions suggest that cooperatives choose their capital structure largely according to the rate of return on capital employed and the interest rate in a manner consistent with maximizing the rate of return on equity and that the rate at which cooperatives can retire member equity is directly related to leverage.
Research limitations/implications
The model does not consider unallocated earnings. Analysis of the relationship between leverage and equity retirement yields results contrary to the assumptions of earlier studies.
Practical implications
Cooperatives can use the model because the necessary parameters are easily understood and readily available from financial statements, lenders and industry sources.
Originality/value
The model is developed specifically for determining the capital structure of cooperatives and differs substantially from the corporate model. A theoretical basis is provided for the relationship between leverage and equity retirement.
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