Predicting Financial Distress in a High-Stress Financial World: The Role of Option Prices as Bank Risk Metrics

The current financial crisis offers a unique opportunity to investigate the leading properties of market indicators in a stressed environment and their usefulness from a banking supervision perspective. One pool of relevant information that has been little explored in the empirical literature is the market for bank's exchange-traded option contracts. In this paper, we first extract implied volatility indicators from the prices of the most actively traded option contracts on financial firms' equity. We then examine empirically their ability to predict financial distress by applying survival analysis techniques to a sample of large US financial firms. We find that market indicators extracted from option prices significantly explain the survival time of troubled financial firms and do a better job in predicting financial distress than other time-varying covariates typically included in bank failure models. Overall, both accounting information and option prices contain useful information of subsequent financial problems and, more importantly, the combination produces good forecasts in a high-stress financial world, full of doubts and uncertainties.Financial distress ; Financial system oversight ; Market discipline ; Options ; Implied volatility ; Survival analysis

Predicting Financial Distress in a High-Stress Financial World: The Role of Option Prices as Bank Risk Metrics

The current financial crisis offers a unique opportunity to investigate the leading properties of market indicators in a stressed environment and their usefulness from a banking supervision perspective. One pool of relevant information that has been little explored in the empirical literature is the market for bank’s exchange-traded option contracts. In this paper, we first extract implied volatility indicators from the prices of the most actively traded option contracts on financial firms’ equity. We then examine empirically their ability to predict financial distress by applying survival analysis techniques to a sample of large US financial firms. We find that market indicators extracted from option prices significantly explain the survival time of troubled financial firms and do a better job in predicting financial distress than other time-varying covariates typically included in bank failure models. Overall, both accounting information and option prices contain useful information of subsequent financial problems and, more importantly, the combination produces good forecasts in a high-stress financial world, full of doubts and uncertainties.Financial distress; Financial system oversight; Market discipline; Options; Implied volatility; Survival analysis.

Failing and Merging as Competing Alternatives during Times of Financial Distress: Evidence from the Colombian Financial Crisis

This paper studies the determinants of individual bank failures and M&A processes in Colombia during the financial crisis of the late 1990s. Using bank-specific data we estimate competing risk hazards models and find that while profitability and capitalization are the most important determinants of the probability of failing, bank´s size, efficiency and capitalization are the main determinants of the probability of participating in an integration process. All else constant, an increase in capitalization reduces the probability of disappearing, whether due to the occurrence of bankruptcy, a merge or an acquisition. However, a marginal increase in capitalization reduces significantly more the probability of bankruptcy than the probability of integration. This study is the first to present a competing risks hazard model to identify covariates that excerpt significant influence on the probability of failing or merging for banks of an emerging economy.Survival analysis; Competing risk models; Colombia. Classification JEL: G21; G33; G33; C25

Resiliency of Production Networks in Asia: Evidence from the Asian Crisis

This paper presents the resiliency of international production networks stretched across the Asian region in face of the Asian financial and currency crisis back in 1997-98, as well as confirming its stability with consideration to adverse effects of the crisis. To examine the probability of survival once a trade relationship is established and the probability of revival after the transaction is broken off, survival analysis is conducted using the country-product level trade data. A series of survival analyses provide evidence supporting the view that transactions of intermediate goods within production networks are more likely to be stable and resilient to a temporary disruption compared to other transactions. First, even after considering the impact of the Asian crisis, machinery parts & components are more likely to be traded through long-lived trade relationships compared to finished products in intra-Asian trade. Second, machinery parts & components are no exception in that a non negligible portion of trade relationships was actually broken off amid the Asian crisis, but many of them were restored shortly afterward as compared to the others.

The Competing Risks of Acquiring and Being Acquired: Evidence from Colombia´s Financial Sector

This paper studies the determinants of the probability of participating in a process of merging or acquisition for financial institutions in Colombia. We use survival analysis techniques and competing risks models to estimate the probability of participating in such processes as an acquiring or acquired firm. Using an especially rich database containing financial information of Colombian banks for the period 1990 - 2007, we find that both macroeconomic and microeconomic variables are important determinants of such probability. However, there are differential effects for the acquiring firm and the acquired firm. Particularly, while firm size and solvency result significant determinants of the probability of being an acquiring firm, efficiency is an important determinant of the probability of being acquired. Also, the concentration index, that plays no role for acquiring firms, plays an important role in the probability of being acquired.Survival analysis; competing risk models; Colombia

Bank Failure: Evidence from the Colombia Financial Crisis

This paper identifies the main bank specific determinants of bank failure during the financial crisis in Colombia using duration analysis. Using partial likelihood estimation, it shows that the process of failure of financial institutions during that period can be explained by differences in financial health and prudence across institutions. The capitalization ratio is the most significant indicator explaining bank failure. Increases in this ratio lead to a reduction in the hazard rate of failure at any given moment in time. Of special relevance, this ratio exhibits a non-linear component. Our results thus provide empirical support for existing regulatory practice. Other important variables explaining bank failure dynamics are bank's size and profitability.

Country risk ratings and financial crises 1995 - 2001: a survival analysis

Financial system’s health is a signal of economic growth therefore it is a key indicator to investors. As a consequence, one of the main purposes of policymakers is to keep its stability as well as protect it from foreign activity. Both financial and economic activity in general are susceptible of crises, as soon as this happen a country may face default risk, which can be measured with long term debt risk rating of countries. Through this variable we propose the use the survival analysis methodology, to analyze falls rating duration and capability of macroeconomic variables to predict that event. From the analysis, we point out important differences between developed and emerging economies, with variables which stand out exchange risk and economies indebtedness.Financial crises, financial risk, foreign debt, survival models. Classification JEL:G15; G28; H81.

Online Appendix to: Economic Crisis and the Breakdown of Democracy in the Interwar Years: a Reassessment

In this online appendix we investigate if the results presented in the main paper, 'Economic Crisis and the Breakdown of Democracy in the Interwar Years: A Reassessment', are robust to alternative modeling strategies, alternative configuration of control variables, alternative follow-up time, reduced (European) sample, alternative measure of the outcome variable, and the use of logistic regression instead of survival analysis. The robustness checks generally lend further support to our general conclusions

Rapid International Expansion Strategy of Emerging Market Enterprises: The Interplay between Speed and Competitive Risks on International performance

Firms that internationalize relatively late may pursue rapid internationalization by entering multiple markets simultaneously to reach global scale faster and to capture early mover advantages. These trends run counter to the theory of incremental internationalization. With data on Korean firms' early international expansion experiences, we found evidence that a rapid international expansion strategy enhances firm performance in industries where globalization pressures are high, by firms with less lead-time of their home-country rivals, and in countries where they could be early movers.incremental internationalization, rapid international expansion strategy, emerging markets, foreign subsidiary survival, foreign direct investment

Predicting financial distress:A comparison of survival analysis and decision tree techniques

AbstractFinancial distress and then the consequent failure of a business is usually an extremely costly and disruptive event. Statistical financial distress prediction models attempt to predict whether a business will experience financial distress in the future. Discriminant analysis and logistic regression have been the most popular approaches, but there is also a large number of alternative cutting – edge data mining techniques that can be used. In this paper, a semi-parametric Cox survival analysis model and non-parametric CART decision trees have been applied to financial distress prediction and compared with each other as well as the most popular approaches. This analysis is done over a variety of cost ratios (Type I Error cost: Type II Error cost) and prediction intervals as these differ depending on the situation. The results show that decision trees and survival analysis models have good prediction accuracy that justifies their use and supports further investigation