Department of Finance and Real Estate

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https://hdl.handle.net/10217/206603

This digital collection includes faculty publications from the Department of Finance and Real Estate.

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Open Access
A hidden markov multi-asset price model
(Colorado State University. Libraries, 2007-01) Elliott, Robert J., author; Tao, L., author; Miao, Hong, author; Canadian Applied Mathematics Quarterly, publisher
Prices for some real world tradable assets, for instance natural gas and oil, are correlated, and the price dynamics for those assets are different in different economic environments. In this paper we extend the mean reverting model to multi-assets and model correlation between prices. Our model also allows the means and the mean reverting factors to switch between different regimes by including a Hidden Markov chain which models the different economic environments, or "states of the world." We then obtain approximate estimates for the parameters by applying filters and the EM algorithm. Approximate derivative prices are also given.
Open Access
Investment timing with regime switching
(Colorado State University. Libraries, 2008-01-17) Elliott, Robert J., author; Miao, Hong, author; Yu, Jin, author; International Journal of Theoretical and Applied Finance, publisher
We investigate the optimal investment timing strategy in a real option framework. Depending on the state of the economy, whose changes are modeled by a Markov chain, the investment cost can take one of two values. The optimal investment timing decision is determined by finding the free boundary of a perpetual American option. Three investment timing policies, based on different assumptions of investors' information sets, are determined and compared. In the full information case, a significantly earlier optimal exercising time is indicated. We show that an optimal-timing policy suggested by the conventional real option model might ruin the investment opportunities.
Open Access
A model for energy pricing with stochastic emission costs
(Colorado State University. Libraries, 2009-07-23) Elliott, Robert J., author; Lyle, Matthew R., author; Miao, Hong, author; Energy Economics, publisher
We use a supply-demand approach to value energy products exposed to emission cost uncertainty. We find closed form solutions for a number of popularly traded energy derivatives such as: forwards, European call options written on spot prices and European Call options written on forward contracts. Our modeling approach is to first construct noisy supply and demand processes and then equate them to find an equilibrium price. This approach is very general while still allowing for sensitivity analysis within a valuation setting. Our assumption is that, in the presence of emission costs, traditional supply growth will slow down causing output prices of energy products to become more costly over time. However, emission costs do not immediately cause output price appreciation, but instead expose individual projects, particularly those with high emission outputs, to much more extreme risks through the cost side of their profit stream. Our results have implications for hedging and pricing for producers operating in areas facing a stochastic emission cost environment.
Open Access
VaR and expected shortfall: a non-normal regime switching framework
(Colorado State University. Libraries, 2009-09) Elliott, Robert J., author; Miao, Hong, author; Quantitative Finance, publisher
We have developed a regime switching framework to compute the Value at Risk and Expected Shortfall measures. Although Value at Risk as a risk measure has been criticized by some researchers for lack of subadditivity, it is still a central tool in banking regulations and internal risk management in the finance industry. In contrast, Expected Shortfall (ES) is coherent and convex, so it is a better measure of risk than Value at Risk. Expected Shortfall is widely used in the insurance industry and has the potential to replace Value at Risk as a standard risk measure in the near future. We have proposed regime switching models to measure value at risk and expected shortfall for a single financial asset as well as financial portfolios. Our models capture the volatility clustering phenomenon and variance-independent variation in the higher moments by assuming the returns follow Student-t distributions.
Open Access
Valuing multifactor real options using an implied binomial tree
(Colorado State University. Libraries, 2010-06) Wang, Tianyang, author; Dyer, James, author; Decision Analysis, publisher
This paper proposes an approach for solving a multifactor real options problem by approximating the underlying stochastic process with an implied binomial tree. The implied binomial tree is constructed to be consistent with simulated market information. By simulating European option prices as artificial market information, we apply the implied binomial tree method for real options valuation when the options are contingent on the value of market uncertainties that are not traded assets. Compared to the discrete approximations suggested in the current literature, this method offers a more flexible distribution assumption for project values and therefore provides an alternative approach to estimating the value of high-dimensional real options. For risk managers, it serves as a capital budgeting method for projects with managerial flexibility.
Open Access
Is the price of crude responsive to macroeconomic news? A test of the stock-flow hypothesis
(Colorado State University. Libraries, 2011-01-21) Chatrath, Arjun, author; Miao, Hong, author; Ramchander, Sanjay, author; Journal of Futures Markets, publisher
A recent study indicates that the daily price of crude oil is mostly unresponsive to macroeconomic news, at times exhibiting response-coefficients that carry the "wrong sign". The study concludes that the price of crude oil is predetermined to macro aggregates, and hence determined in a flow demand and flow supply framework. We make the economic argument that inferences on commodity price determination should be drawn from news responses only after the standard tests are subject to inventory (or stock) controls. Using both daily and intraday data for crude oil, and using rudimentary tools to isolate perceived inventory levels, we test for the stock-flow hypothesis for crude oil. We find only weak evidence on the role of inventory levels for crude oil. We also assess the extent to which the dynamics of the dollar plays in the results, and find its role to be limited. Overall, the prior conclusion that crude oil is priced primarily in a flow-environment is supported by our data. The initial (intraday) response in energy prices to macro news appears to be the result of noise trading.
Open Access
Impact of macroeconomic news on metal futures
(Colorado State University. Libraries, 2011-06-07) Elder, John, author; Miao, Hong, author; Ramchander, Sanjay, author; Journal of Banking & Finance, publisher
This paper uses intra-day data for the period 2002 through 2008 to examine the intensity, direction, and speed of impact of U.S. macroeconomic news announcements on the return, volatility and trading volume of three important commodities – gold, silver and copper futures. We find that the response of metal futures to economic news surprises is both swift and significant, with the 8:30 am set of announcements – in particular, nonfarm payrolls and durable goods orders – having the largest impact. Furthermore, announcements that reflect an unexpected improvement in the economy tend to have a negative impact on gold and silver prices; however, they tend to have a positive effect on copper prices. In comparison, realized volatility and volume for all three metals are positively influenced by economic news. Finally, there is evidence that several news announcements exert an asymmetric impact on market activity variables.
Open Access
Fractional differencing in discrete time
(Colorado State University. Libraries, 2011-07-23) Elder, John, author; Elliott, Robert J., author; Miao, Hong, author; Quantitative Finance, publisher
This paper consists of two parts, a theoretical followed by an empirical contribution. We first give a new framework for fractional differencing in discrete time and show how the definition of fractional differencing that is commonly employed in empirical financial applications arises as a special case. We then use these methods to estimate the fractional differencing parameter in the return and volatility for three Comex metal futures contracts. The metal futures are sampled at very high frequencies—five-minute intervals over a nearly eight year period.
Open Access
Viterbi-based estimation for markov switching GARCH model
(Colorado State University. Libraries, 2011-08-22) Elliott, Robert J., author; Lau, John W., author; Miao, Hong, author; Kuen Siu, Tak, author; Applied Mathematical Finance, publisher
We outline a two-stage estimation method for a Markov-switching Generalized Autoregressive Conditional Heteroscedastic (GARCH) model modulated by a hidden Markov chain. The first stage involves the estimation of a hidden Markov chain using the Vitberi algorithm given the model parameters. The second stage uses the maximum likelihood method to estimate the model parameters given the estimated hidden Markov chain. Applications to financial risk management are discussed through simulated data.
Open Access
A copulas-based approach to modeling dependence in decision trees
(Colorado State University. Libraries, 2012-01) Wang, Tianyang, author; Dyer, James, author; Operations Research, publisher
This paper presents a general framework based on copulas for modeling dependent multivariate uncertainties through the use of a decision tree. The proposed dependent decision tree model allows multiple dependent uncertainties with arbitrary marginal distributions to be represented in a decision tree with a sequence of conditional probability distributions. This general framework could be naturally applied in decision analysis and real options valuations, as well as in more general applications of dependent probability trees. While this approach to modeling dependencies can be based on several popular copula families as we illustrate, we focus on the use of the normal copula and present an efficient computational method for multivariate decision and risk analysis that can be standardized for convenient application.
Open Access
Corporate bonds, macroeconomic news, and investor flows
(Colorado State University. Libraries, 2012-06-30) Chatrath, Arjun, author; Miao, Hong, author; Ramchander, Sanjay, author; Villupuram, Sriram, author; Journal of Fixed Income, publisher
This article examines the impact of macroeconomic announcements on corporate bond prices and investor migrations across various types of bonds over time. In addition, the authors compare the responses of investor-grade bonds and speculative corporate bonds. They find corporate bond responses to be different from those of Treasury bonds. Positive macrosurprises are followed by declining (rising) yields on corporate bonds (Treasuries), implying that investors may be migrating between Treasuries and corporate bonds very rapidly. They also identify that the sensitivity of junk bonds is more pronounced than that of investment-grade bonds. Finally, they document that the behavior of corporate bonds is very similar to that of their equity counterparts in that they exhibit greater sensitivity to negative macroshocks than to positive shocks.
Open Access
Jumps in oil prices: the role of economic news
(Colorado State University. Libraries, 2012-12) Elder, John, author; Miao, Hong, author; Ramchander, Sanjay, author; The Energy Journal, publisher
Previous research has been unable to identify a strong link between crude oil prices and economic news. We reexamine this relationship using high frequency intraday data and relatively new methodology to estimate jumps in oil prices. We find a surprisingly strong correspondence between high frequency jumps in oil prices and the arrival of new economic information, with the largest jumps tending to be preceded identifiable economic news. These results indicate that oil prices respond very rapidly to new economic data in ways that appear consistent with economic theory, and also suggest that economic news, rather than speculation unrelated to the economic environment, drives jumps in oil prices.
Open Access
Currency jumps, cojumps and the role of macro news
(Colorado State University. Libraries, 2013-05) Chatrath, Arjun, author; Miao, Hong, author; Ramchander, Sanjay, author; Villupuram, Sriram, author; Journal of International Money and Finance, publisher
This study investigates the impact of macro news on currency jumps and cojumps. The analysis uses intra-day data, sampled at 5-min frequency, for four currencies for the period 2005–2010. Results indicate that currency jumps are a good proxy for news arrival. We find 9–15% of currency jumps can be directly linked to U.S. announcements. Notably, news can explain 22–56% of the 5-min jump returns, and there is evidence that better-than-expected news about the U.S. economy has a negative impact on currency jumps. Cojump statistics suggest close dependencies among European currencies, especially between the euro and the Swiss franc. We also provide evidence on the uncertainty resolution to news.
Open Access
S&P 500 index‐futures price jumps and macroeconomic news
(Colorado State University. Libraries, 2013-06-24) Miao, Hong, author; Ramchander, Sanjay, author; Zumwalt, J. Kenton, author; Journal of Futures Markets, publisher
This study examines the influence of macroeconomic news on price discontinuities in the S&P 500 index futures. Results document a strong association between macro news and price jumps. Over three‐fourths of the price jumps between 8:30 am and 8:35 am and over three‐fifths of the jumps between 10:00 am and 10:05 am are related to news released at 8:30 am and 10:30 am, respectively. Notably, among several types of news releases considered, Non‐farm Payroll and Consumer Confidence are found to be significantly related to price jumps. Our findings also provide insights into the speed of news absorption and the influence of alternative trading platforms on the jump return behavior.
Open Access
The response of bond prices to insurer ratings changes
(Colorado State University. Libraries, 2014-04) Miao, Hong Miao, author; Ramchander, Sanjay, author; Tianyang Wang Tianyang, author; The Geneva Papers on Risk and Insurance. Issues and Practice, publisher
This paper examines the impact of insurer ratings changes on bond prices. Using insurer ratings from four major rating agencies and data covering the recent financial crisis period, we document that downgrades have a strong negative price impact on bond prices, especially when the downgrades are reinforced by multiple agencies. In contrast, the announcement-day impact of upgrades is found to be weak. Our evidence is consistent with the predictions of structural credit risk models.
Open Access
Crude oil moments and PNG stock returns
(Colorado State University. Libraries, 2014-04-24) Chatrath, Arjun, author; Miao, Hong, author; Ramchander, Sanjay, author; Energy Economics, publisher
We examine the risk-neutral moments of crude oil and their relationship to stock returns in the Petroleum and Natural Gas (PNG) industry. We find substantial overlaps in the association between returns and S&P 500- and crude oil higher moments. Net of these overlaps, PNG stocks share a significant negative relationship with crude volatility and positive relationships with crude skewness and kurtosis. Large cap stocks and those with a history of hedging exhibit negative loadings on crude volatility. However, after controlling for S&P 500- and crude oil returns and their risk-neutral moments, there is little evidence that PNG stocks systematically and significantly price either S&P 500- or crude oil volatility. We document a weak pricing of crude skewness, but find no evidence for the pricing of the implied higher moments of market returns.
Open Access
Price discovery in crude oil futures
(Colorado State University. Libraries, 2014-09-15) Elder, John, author; Miao, Hong, author; Ramchander, Sanjay, author; Energy Economics, publisher
This study examines price discovery among the two most prominent price benchmarks in the market for crude oil, WTI sweet crude and Brent sweet crude. Using data on the most active futures contracts measured at the one-second frequency, we find that WTI maintains a dominant role in price discovery relative to Brent, with an estimated information share in excess of 80%, over a sample from 2007 to 2012. Our analysis is robust to different decompositions of the sample, over pit-trading sessions and non-pit trading sessions, segmentation of days associated with major economic news releases, and data measured to the millisecond. We find no evidence that the dominant role of WTI in price discovery is diminished by the price spread between Brent that emerged in 2008.
Open Access
Functional dynamic factor model for intraday price curves
(Colorado State University. Libraries, 2015-02-21) Kokoszka, Piotr, author; Miao, Hong, author; Zhang, Xi, author; Journal of Financial Econometrics, publisher
This article proposes a functional dynamic factor model for the evaluation of the impact of scalar– and curve–valued factors on the shapes of intraday price curves. The asymptotic theory leads to practically useful confidence intervals for the factor coefficients. The main findings pertain to the impact of the shapes of intraday oil futures on the shapes of intraday prices of blue chip stocks.
Open Access
A copula-based approach for generating lattices
(Colorado State University. Libraries, 2015-07-02) Wang, Tianyang, author; Dyer, James S., author; Hahn, Warren J., author; Review of Derivatives Research, publisher
Discrete approximations such as binomial and trinomial lattices have been developed to model the intertemporal dynamics of variables in a way that also allows contingent decisions to be included at the appropriate increments in time. In this paper we present an approach for developing these types of models based on copulas. In addition to ease of implementation, a primary benefit of this approach is its generality, and we show that various binomial and trinomial approximation methods for valuing contingent claim securities in the literature are special cases of this approach, each based on a choice of a particular set of probability and/or branching parameters. Because this approach encompasses these and other cases as feasible solutions, we also show how it can be used to optimize the construction of lattices so that discretization error is minimized, and we demonstrate its application for an option pricing example.
Open Access
Modeling correlated discrete uncertainties in event trees with copulas
(Colorado State University. Libraries, 2015-07-14) Wang, Tianyang, author; Dyer, James S., author; Butler, John C., author; Risk Analysis, publisher
Modeling the dependence between uncertainties in decision and risk analyses is an important part of the problem structuring process. We focus on situations where correlated uncertainties are discrete, and extend the concept of the copula‐based approach for modeling correlated continuous uncertainties to the representation of correlated discrete uncertainties. This approach reduces the required number of probability assessments significantly compared to approaches requiring direct estimates of conditional probabilities. It also allows the use of multiple dependence measures, including product moment correlation, rank order correlation and tail dependence, and parametric families of copulas such as normal copulas, t‐copulas, and Archimedean copulas. This approach can be extended to model the dependence between discrete and continuous uncertainties in the same event tree.