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Sovereign Default Risk and Bank Fragility in Financially Integrated Economies

This paper considers government debt management, sovereign default risk, and the implications of sovereign debt crises for the banking sector in financially integrated economies. The recent literature on sovereign debt has generally abstracted from the link between a sovereign debt crisis in a country and contagion to other countries through an integrated banking system.

Ebook Financing large debt: syndicated loans versus corporate bonds

Debt is a major source of external financing for large European firms. In 2007, corporate bonds and syndicated loans made up 94% of all public funds raised in the European capital markets, while public equity issuance accounted for only 6%. In recent years, developments in the corporate bond market have attracted considerable attention, particularly in the light of the market’s spectacular development in the aftermath of the introduction of the euro.

Ebook Transparency Proposals for European Sovereign Bond Markets

Due mainly to regulatory activity, financial market transparency has become the subject of much recent interest within the finance industry as well as in academic circles. The word ‘transparency’ is used in this context to mean how visible market activity and prices are. Regulation in this area is usually aimed at increasing transparency and regulatory intervention usually reflects a view that, when left unregulated, a sub-optimal level of transparency is chosen by Self Regulatory Organizations.

Dietary Fibre for a Healthy Diet

Before the industrial revolution the main function of food was to serve as man’s primary source of energy. It was at this time that the term “dietary fibre” was coined, to denote the indigestible plant material that does not contribute to the supply of nutrients and is therefore regarded as superfluous.

Diet, Nutrition and The Prevention of Dental Diseases

Oral health is related to diet in many ways, for example, nutritional influences on craniofacial development, oral cancer and oral infectious diseases. Dental diseases impact considerably on self-esteem and quality of life and are expensive to treat. The objective of this paper is to review the evidence for an association between nutrition, diet and dental diseases and to present dietary recommendations for their prevention.

Ebook How Does Bank Lending React to Unexpected Changes in Bank Supervision?

The financial crisis that the U.S. is currently experiencing has resulted in proposals for tighter regulation of financial institutions. But implementing new regulatory reforms should be done after a careful analysis of its consequences on the financial system, and more specifically, on banking behavior. Undoubtedly, banking regulation and prudential supervision exists because it is thought to promote an efficient and competitive banking system. It is also thought to help prevent the occurrence of large and sustained financial disruptions caused by banking panics and failures, and, in addition, to reduce depositor’s risk exposure to episodes of financial distress.

Ebook Distress Risk and Stock Returns Following Private Placements of Equity

Studying long-term performance following private placements of equity, Hertzel, Lemmon, Linck and Rees (2002) find negative long term returns. They consider the finding of negative long-term returns “troubling” since the announcement effects of private placements are documented to be positive. Wruck (1989) attributes the positive announcement effect to the discipline imposed by an active investor who can alleviate any agency problems.

Ebook How Does Country Risk Matter for Foreign Direct Investment?

Foreign direct investment (FDI) is widely viewed as beneficial for growth and job creation in the destination countries as it finances domestic investment and can be a vehicle for productivity growth through the use and dissemination of advanced production techniques and management skills. Compared with short-term credits and portfolio investments, FDI is much more stable and resilient to changes in economic environment. For these reasons, countries have tried to attract FDI. Therefore, the really important question is what countries can do to attract more of inward FDI.

Sovereign Debt Crises through the Prism of Primary Bond Markets

The aim of this paper is to study the recent sovereign debt crises from the structure of the primary market. We examine the behaviour and interactions between the three major actors of the Sovereign Bond Market (i.e, governments, investment banks/lead managers and investors), prior and following a sovereign debt crisis. To this end we analyse important, yet often overlooked in the research literature, sources of information pertaining to price formation on the primary market for sovereign bonds. Particularly the remuneration governments pay investment banks to place bonds (i.e., underwriting spread), and the primary price at which these bonds are bought by investors.

Modelling Sovereign Debt Rescheduling Probabilities in Emerging Markets

This study performs a new investigation into determinants of sovereign default with the purpose of developing a model that will predict sovereign debt default/rescheduling. Determining sovereign default probabilities is useful since they can be used to monitor financial vulnerability of emerging markets. The threat of possible default problems in emerging markets is often a source of financial market turbulence in both emerging markets and globally. The recent literature on the determinants of financial crises usually focuses on currency and banking crises and only indirectly on sovereign debt crises. We aim to fill this gap.

The Value of Institutions For Financial Markets: Evidence from Emerging Markets

Well-functioning capital markets and the low interest rates that often accompany them are important for economic development and growth. High interest rates, for example, can deter governments from borrowing to finance investments on which to base future economic growth. High rates are often due to risk premiums that reflect the possibility that the government will default.

Short and Long-run Determinants of Sovereign Debt Credit Ratings

Sovereign credit ratings are a condensed assessment of a government’s ability and willingness to repay its public debt on time, both in principal and in interests. In this, they are forward looking qualitative measures of the probability of default put forward by rating agencies. Sovereign credit ratings are particularly relevant for international financial markets, economic agents and governments. Indeed, they are important in three ways. First, sovereign ratings are a key determinant of the interest rates a country faces in the international financial market and therefore of its borrowing costs.

A Structural Model for Sovereign Credit Risk

This paper provides a structural model, and an accompanying empirical analysis, of sovereign default risk. The model help explain the variation across time in EMBI+ spreads to a degree that had not been offered by prior empirical models. I also generate theoretical predictions of the relationship between credit risk and the macro-variables provided by the model that are consistent with the empirical literature. Sovereign foreign debt has been at the center of a number of international lending crises and now constitutes the largest asset class in emerging markets, representing approximately $5,500bn of principal in 2007 (FT, 2007).

Stock Returns and Volatility: Pricing the Long-Run and Short-Run Components of Market Risk

It is well documented that the volatility of the stock market is stochastic (see Bollerslev, Engle, Nelson (1994) and Ghysels, Harvey, Renault (1996)). In equilibrium settings such as Merton's (1973) ICAPM or the CIR model by Cox, Ingersoll, Ross (1985), shocks to the volatility process become pricing kernel state variables.

Modelling the Dynamics of Implied Volatility Surfaces

Modelling and exploring the dynamics of financial assets' volatility has been the main issue and central focal point among finance academics and practitioners. Volatility is fundamental for risk management, option pricing, hedging of derivatives positions and policy making.

Determinants of Sovereign Risk: Macroeconomic Fundamentals and the Pricing of Sovereign Debt

There is tremendous variation in the interest rates emerging market governments pay on their external debt. This is true both across countries and over time. A common measure of a country’s borrowing cost in international capital markets is its yield spread, which is defined as the difference between the interest rate the government pays on its external U.S. dollar denominated debt and the rate offered by the U.S. Treasury on debt of comparable maturity.

Treasury Yields, Equity Returns, and Credit Spread Dynamics

In recent years, corporate credit risk has become an increasingly important and active area of research. This issue plays a central role in the fixed income literature, primarily because of its importance in the pricing of risky debt and credit derivatives.

Latent Liquidity and Corporate Bond Yield Spreads

Corporate bonds are amongst the least understood instruments in the US financial markets. This is surprising given the sheer size of the US corporate bond market, about 5.3 trillion dollars out standing in June 2006, which makes such bonds an important source of capital for US firms.

Monetary Policy and the House Price Boom Across U.S. States

In some U.S. metropolitan areas house prices increased dramatically during the last few years. The increase in house prices is substantial even if one looks at the average state-level price, which smooths out the differences across local markets within each state. The dark bars in Figure 1 show the annualized average growth rates from the first quarter of 2001 to the last quarter of 2005 in the OFHEO (Office of Federal Housing Enterprise Oversight) house price indexes, deflated by the core PCE inflation, for the forty-eight contiguous U.S. states.

Monetary Policy, Housing, and Heterogeneous Regional Markets

A widely held conventional view is that monetary policy should focus only on aggregate economic conditions because it cannot control or target the conditions of particular geographic regions. This paper examines the largely overlooked flip side of this conventional view. Regional economic conditions can (and do) significantly influence aggregate responses to monetary policy actions, for two simple and intuitive reasons.

The Extensive Margin and Monetary Policy

Business cycles are characterized by sizeable investment dynamics of firm entry and exit. Just as real and monetary shocks may lead firms to adjust the scale of production, they also create opportunities to introduce new goods in the market, as lower costs or higher demand raise the profitability of new product lines. The first type of adjustment is commonly referred to as the intensive margin, whereas the second type of adjustment is referred to as an extensive margin.

Pricing and Hedging Volatility Risk in Fixed Income Markets

Though dynamic models with a small number of risk factors (e.g., two or three) have had considerable success at pricing bonds across a broad spectrum of maturities, they typically generate large errors when pricing options on these bonds. Mean-squared relative pricing errors for options on the order of 30% are reported in Buhler et al. (1999), Dreissen et al. (2003), and Jagannathan et al. (2003). Moreover, model-free principal components analyses, e.g., Heidari and Wu (2003), show that the level, slope, and curvature term-structure factors explain only about 60% of the cross sectional variation in option-implied volatilities.

The Complex Effect of Yields on Bond Price Volatility

Modeling interest rate processes has been a major topic in financial research for decades. In more recent decades, interest rate models have perhaps become even more important due to the growing market for interest rate derivatives. Vasicek (1977) and Cox, Ingersoll and Ross (1985) are two of the older classic models while Hull and White (1990), Black and Karsinki (1991), Heath, Jarrow and Morton (1990) and Pearson and Sun (1994) developed more recent models.

Investor sentiment and the cross-section of stock returns

Classical finance theory gives no role to investor sentiment. Investors are rational and diversify to optimize the statistical properties of their portfolios. Competition among them leads to an equilibrium in which prices equal the rationally discounted value of expected cash flows, and in which the cross-section of expected returns depends on the cross-section of systematic risks. Even if some investors are irrational, classical theory argues, their demands will be offset by arbitrageurs and similar conclusions for prices will obtain.

Realized Bond-Stock Correlation: Macroeconomic Announcement Effects

How do markets adjust to important news arrivals? How and to what extent are bond and stock markets linked to fundamentals? Do macroeconomic announcement effects vary across assets? Do the price discovery processes in different markets proceed independently or in tandem? Does the current economic business cycle characterize the market’s price reactions to macroeconomic news? In this paper, we attempt to shed new light on these important issues.

Strategic Actions, Capital Structure, and Credit Spreads: An Empirical Investigation

This paper explores the empirical relationship between corporate debt pricing and firm characteristics which influence strategic actions of borrowers and lenders. Our analysis of bond yield spreads is based on a large body of corporate finance literature that studies the effect of firm’s characteristics on the outcome of distressed restructuring. The key question we ask is, to what extent are firm-specific factors that influence strategic decisions related to default and ex-post reorganization reflected in ex-ante prices of corporate bonds.

Realized Volatility, Liquidity, and Corporate Yield Spreads

Structural credit risk models cannot adequately explain credit spread levels, credit spread changes, and observed defaults. On one hand, this empirical failure has prompted researchers to reconsider the role of idiosyncratic volatility and jumps to better describe credit risk. On the other hand, a growing number of studies argues that illiquidity might be an additional determinant of corporate bond prices. However, in informationally effcient markets, trading decisions are simultaneously a ffected by investors' assessment of credit risk (information side) and by the liquidity of the bond that they wish to trade (friction side).

The Effects of Default Correlation on Corporate Bond Credit Spreads

The tendency for firms' defaults to cluster is a widely accepted phenomenon in corporate bond and credit derivatives markets. The general observation is that regardless of the state of the economy there is some average number of firms that default each period, and intermittently there are sharp increases in the number of defaults. These spikes, or default clusters, are not persistent and the number of defaults readily reverts to the pre-cluster average.

Time-Series Estimation of Aggregate Corporate Bond Credit Spreads

Assessing and managing the credit risk of risky corporate debt instruments has become a major area of interest and concern to academics, practitioners and regulators in the past decade, especially in the aftermath of a series of credit crises such as the Russian default and the Enron and the WorldCom collapses. In the academic field, there has been a fast growing literature on models of credit risk measurement and management.

Asset Allocation with Conventional and Indexed Bonds

In January 1997 the U.S. Treasury began issuing 10-year inflation-protected bonds with principal and interest payments linked to the consumer price index of all urban consumers. We refer to these as indexed or inflation-linked bonds. In this paper we examine whether and how the availability of indexed bonds might affect investors’ asset allocation decisions. We also study whether the availability of indexed bonds enables investors to construct superior mean variance efficient portfolios.

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