Optimality and Diversifiability of Mean Variance and Arbitrage Pricing Portfolios

This paper investigates the limit properties of mean-variance (mv) and arbitrage pricing (ap) trading strategies using a general dynamic factor model, as the number of assets diverge to infinity. It extends the results obtained in the literature for the exact pricing case to two other cases of asymptotic no-arbitrage and the unconstrained pricing scenarios. The paper characterizes the asymptotic behaviour of the portfolio weights and establishes that in the non-exact pricing cases the ap and mv portfolio weights are asymptotically equivalent and, moreover, functionally independent of the factors conditional moments. By implication, the paper sheds light on a number of issues of interest such as the prevalence of short-selling, the number of dominant factors and the granularity property of the portfolio weights.large portfolios, factor models, mean-variance portfolio, arbitrage pricing, market (beta) neutrality, well diversification

Large games and large asset markets

Master'sMASTER OF SCIENC

An entropic approach to equity market integration and consumption-based capital asset pricing models

This study examines the degree of equity market integration and segmentation domestically and internationally. The conventional method on this literature either is subject to the joint hypothesis test problem or lacks the sampling distribution theory needed to make inferences about the integration hypothesis. To circumvent both problems, this study proposes using the nonparametric entropic approach to test for the market integration hypothesis. The proposed approach also allows us to perform an alternative test of conventional consumption-based capital asset pricing models. Both monthly and quarterly data from December, 1980 through November, 1996 are used for Taiwan and U.S. equity markets. At the industry portfolio level, we find that both equity markets are integrated domestically and internationally. The negligible value of the estimates of segmentation indices provides evidence that the two equity markets are not segmented domestically or internationally. We also find that the power felicity consumption-based capital asset pricing model cannot be rejected separately for these two equity markets

No arbitrage in insurance and the QP-rule

This paper is an attempt to study fundamentally the valuation of insurance contracts. We start from the observation that insurance contracts are inherently linked to financial markets, be it via interest rates, or -- as in hybrid products, equity-linked life insurance and variable annuities -- directly to stocks or indices. By defining portfolio strategies on an insurance portfolio and combining them with financial trading strategies we arrive at the notion of insurance-finance arbitrage (IFA). A fundamental theorem provides two sufficient conditions for presence or absence of IFA, respectively. For the first one it utilizes the conditional law of large numbers and risk-neutral valuation. As a key result we obtain a simple valuation rule, called QP-rule, which is market consistent and excludes IFA. Utilizing the theory of enlargements of filtrations we construct a tractable framework for general valuation results, working under weak assumptions. The generality of the approach allows to incorporate many important aspects, like mortality risk or dependence of mortality and stock markets which is of utmost importance in the recent corona crisis. For practical applications, we provide an affine formulation which leads to explicit valuation formulas for a large class of hybrid products

Statistical tests and estimators of the rank of a matrix and their applications in econometric modelling

Testing and estimating the rank of a matrix of estimated parameters is key in a large variety of econometric modelling scenarios. This paper describes general methods to test for and estimate the rank of a matrix, and provides details on a variety of modelling scenarios in the econometrics literature where such methods are required. Four different methods to test the true rank of a general matrix are described, as well as one method that can handle the case of a matrix subject to parameter constraints associated with defineteness structures. The technical requirements for the implementation of the tests of rank of a general matrix differ and hence there are merits to all of them that justify their use in applied work. Nonetheless, we review available evidence of their small sample properties in the context of different modelling scenarios where all, or some, are applicable. JEL Classification: C12, C15, C32model specification, Multiple time series, tests of rank

Incentives to Efficient Investment Decisions in Agricultural Cooperatives

Recent studies have questioned the competitiveness of agricultural cooperatives in an industrialized food system, based on empirical results and economic theory. New organizational institutions have been proposed to overcome the cooperative main weaknesses (the so called new generation cooperatives). In this paper, we provide a simple model based on a financial approach to address the issue of cooperative competitiveness and to assess the investment efficiency of both traditional and new generation cooperatives. The main conclusions of the analysis are: i) cooperatives (both traditional and new generation ones) may have incentive to adopt projects that do not maximize the Net Present Value of the firm ii) the institutions of new generation cooperatives are not sufficient to ensure net present value maximization, even though they address some of the main concerns of traditional cooperatives iii) traditional cooperatives may have a competitive advantage in businesses that require the aggregation of a large number of farmers.agricultural cooperatives, investment efficiency, Agribusiness, Agricultural Finance, Q13, Q14,

Robust Estimation of Conditional Factor Models

This paper develops estimation and inference methods for conditional quantile factor models. We first introduce a simple sieve estimation, and establish asymptotic properties of the estimators under large $N$. We then provide a bootstrap procedure for estimating the distributions of the estimators. We also provide two consistent estimators for the number of factors. The methods allow us not only to estimate conditional factor structures of distributions of asset returns utilizing characteristics, but also to conduct robust inference in conditional factor models, which enables us to analyze the cross section of asset returns with heavy tails. We apply the methods to analyze the cross section of individual US stock returns.Comment: 55 page

On the foundations of Lévy finance: Equilibrium for a single-agent financial market with jumps

For a continuous-time financial market with a single agent, we establish equilibrium pricing formulae under the assumption that the dividends follow an exponential Lévy process. The agent is allowed to consume a lump at the terminal date; before, only flow consumption is allowed. The agent's utility function is assumed to be additive, defined via strictly increasing, strictly concave smooth felicity functions which are bounded below (thus, many CRRA and CARA utility functions are included). For technical reasons we require that only pathwise continuous trading strategies are permitted in the demand set. The resulting equilibrium prices depend on the agent's risk-aversion through the felicity functions. It turns out that these prices will be the (stochastic) exponential of a Lévy process essentially only if this process is geometric Brownian motion.financial equilibrium, asset pricing, representative agent models, Lévy processes, nonstandard analysis

The effects of Big Bang on the gilt-edged market : term structure movements and market efficiency

This study is concerned with the impact of the 1986 Stock Market deregulation, or Big Bang, on the efficiency of the United Kingdom government securities market. The main theoretical finding is that the change to dual capacity dealing with negotiated commissions cannot be justified economically without the inclusion of a best execution rule for broker/dealers. The empirical section of the study has three parts. The first part uses established and new autocorrelation techniques to test market efficiency in the traditional weak-form efficient market hypothesis paradigm. The second part tests market efficiency through an analysis of pricing residuals from fitting term structure curves. A new method to fit these curves is developed. The third section tests market efficiency by examining evidence of anomalies in the shape and movements of the term structure. From all three sources, there is strong evidence that the changes introduced by Big Bang improved efficiency in the gilt-edged market

The Cross Section of Expected Returns: Evidence from Implied Beliefs of Active Mutual Funds Managers

I develop a new test to compare the performance of asset pricing models. Using the industry allocations of active US mutual funds, I employ a structural model to estimate the implied expected returns on industry portfolios. For each asset pricing model, I use the factor loadings and the implied expected returns to calculate the implied expected factor risk premium. I compare the models based on the implied Sharpe ratio of the market portfolio. My methodology identifies the asset pricing model that not only generates the highest Sharpe ratio for the market but also best tracks the ex-ante Sharpe ratio. I find that the traditional macroeconomic risk factor model proposed by Chen et al. (1986) performs the best