The Asymmetric Effect of the Business Cycle on the Realtion between Stock Market Returns and their Volatility

We examine the relation between US stock market returns and the US business cycle for the period 1960 - 2003 using a new methodology that allows us to estimate a time-varying equity premium. We identify two channels in the transmission mechanism. One is through the mean of stock returns via the equity risk premium, and the other is through the volatility of returns. We provide support for previous findings based on simple correlation analysis that the relation is asymmetric with downturns in the business cycle having a greater negative impact on stock returns than the positive effect of upturns. We also obtain a new result, that demand and supply shocks affect stock returns differently. Our model of the relation between returns and their volatility encompasses CAPM, consumption CAPM and Merton's (1973) inter-temporal CAPM. It is implemented using a multi-variate GARCH-in-mean model with an asymmetric time-varying conditional heteroskedasticity and correlation structure.Equity returns, risk premium, asymmetry

An Asset Market Integration Test Based on Observable Macroeconomic Stochastic Discount Factors

There are a number of tests and measures of the degree of integration in the literature. An example is the idea that integrated markets should provide rates of return that are highly correlated with one another and that a measure of correlation provides an appropriate test. This particular idea is clearly false; for substantial periods of time we don't ever see stocks traded on the same market moving together. Specific models of what prices risk in individual markets could provide the basis of a test of integration. However, as has been widely shown, any differences between these pricing models will be subject to arbitrage by informed traders and so cannot form the basis for a test. In this paper we exploit the absence of arbitrage possibilities and the operation of the 'Law of One Price' in stochastic discount factor (SDF) theory to construct a test of integration based on a common approach to pricing assets in all markets, not only for stocks. The SDF approach that we adopt says that one SDF should price all assets as the model is not market or asset-specific.Unlike much of the literature, we adopt a direct parametric approach which takes estimates of an identical SDF from two asset markets and asks whether the price of risk associated with this SDF is the same for the two assets as SDF theory says it should. Another distinctive feature of our approach is that we employ observable macroeconomic factors. This allows us to estimate and compare the estimated risk premia in the markets concerned, with and without the integration restriction being applied. The paper uses this methodology to test market integration between the UK equity and FOREX markets. Our test rejects market integration for the consumption-based capital asset pricing model (CCAPM) and two variable SDF models based on consumption growth and inflation and on output and money growth. As equity and FOREX returns have a similar degree of variability, the finding that the risk premium in the FOREX market is generally much more variable than that in the equity market may contribute to the the test outcome.

Macroeconomic Sources of Equity Risk

There are very few estimates of a time-varying equity risk premium based on models that satisfy a no-arbitrage condition. The main aim of this paper is to estimate the US and UK equity risk premia implied by a number of well-known asset pricing models using monthly data for 1975-2001. The models include consumption-based CAPM with power utility, the Epstein-Zin general equilibrium model with time non-separable preferences, CAPM, and the SDF model. We show that most of the theoretical models of the equity risk premium that have been proposed in the literature are special cases the SDF model. We explain why some of them are unable to do this as formulated. In addition to examining existing theories of the equity risk premium, we use the SDF model to generate new theories. We find that macroeconomic variables not previously considered, and not consistent with standard general equilibrium theory, such as production, appear to be priced for the equity risk premium. This suggests that traditional general equilibrium considerations may not be the sole explanation for the equity risk premium; other short-term factors associated with pure price risk may also be involved. A related, and rapidly growing, literature adopts a more statistical approach. It focusses on the empirical relation between the return on equity (or the Sharpe ratio) and return volatility. We use SDF theory to show that this relation is misconceived. The reason for the absence of estimates of the equity risk premium is the difficulty of estimating it. Most of the empirical evidence on these asset pricing models is based on calibration, or the estimation of the Euler equation by GMM, neither of which delivers an estimate of the risk premium. We use a new empirical approach that does produce estimates of the risk premium and allows tests of the theories. As a result we provide the first estimates of the equity risk premium for some of these models. We then use our estimates to investigate the importance of different components of the equity risk premium including, amongst others, return volatility.

Attention and automation: New perspectives on mental underload and performance

There is considerable evidence in the ergonomics literature that automation can significantly reduce operator mental workload. Furthermore, reducing mental workload is not necessarily a good thing, particularly in cases where the level is already manageable. This raises the issue of mental underload, which can be at least as detrimental to performance as overload. However, although it is widely recognized that mental underload is detrimental to performance, there are very few attempts to explain why this may be the case. It is argued in this paper that, until the need for a human operator is completely eliminated, automation has psychological implications relevant in both theoretical and applied domains. The present paper reviews theories of attention, as well as the literature on mental workload and automation, to synthesize a new explanation for the effects of mental underload on performance. Malleable attentional resources theory proposes that attentional capacity shrinks to accommodate reductions in mental workload, and that this shrinkage is responsible for the underload effect. The theory is discussed with respect to the applied implications for ergonomics research

Perfect simulation from unbiased simulation

We show that any application of the technique of unbiased simulation becomes perfect simulation when coalescence of the two coupled Markov chains can be practically assured in advance. This happens when a fixed number of iterations is high enough that the probability of needing any more to achieve coalescence is negligible; we suggest a value of $10^{-20}$. This finding enormously increases the range of problems for which perfect simulation, which exactly follows the target distribution, can be implemented. We design a new algorithm to make practical use of the high number of iterations by producing extra perfect sample points with little extra computational effort, at a cost of a small, controllable amount of serial correlation within sample sets of about 20 points. Different sample sets remain completely independent. The algorithm includes maximal coupling for continuous processes, to bring together chains that are already close. We illustrate the methodology on a simple, two-state Markov chain and on standard normal distributions up to 20 dimensions. Our technical formulation involves a nonzero probability, which can be made arbitrarily small, that a single perfect sample point may have its place taken by a "string" of many points which are assigned weights, each equal to $\pm 1$, that sum to~$1$. A point with a weight of $-1$ is a "hole", which is an object that can be cancelled by an equivalent point that has the same value but opposite weight $+1$.Comment: 17 pages, 4 figures; for associated R scripts, see https://github.com/George-Leigh/PerfectSimulatio

Telephone conversation impairs sustained visual attention via a central bottleneck

Recent research has shown that holding telephone conversations disrupts one's driving ability. We asked whether this effect could be attributed to a visual attention impairment. In Experiment 1, participants conversed on a telephone or listened to a narrative while engaged in multiple object tracking (MOT), a task requiring sustained visual attention. We found that MOT was disrupted in the telephone conversation condition, relative to single-task MOT performance, but that listening to a narrative had no effect. In Experiment 2, we asked which component of conversation might be interfering with MOT performance. We replicated the conversation and single-task conditions of Experiment 1 and added two conditions in which participants heard a sequence of words over a telephone. In the shadowing condition, participants simply repeated each word in the sequence. In the generation condition, participants were asked to generate a new word based on each word in the sequence. Word generation interfered with MOT performance, but shadowing did not. The data indicate that telephone conversation disrupts attention at a central stage, the act of generating verbal stimuli, rather than at a peripheral stage, such as listening or speaking

Symmetric and asymmetric action integration during cooperative object manipulation in virtual environments

Cooperation between multiple users in a virtual environment (VE) can take place at one of three levels. These are defined as where users can perceive each other (Level 1), individually change the scene (Level 2), or simultaneously act on and manipulate the same object (Level 3). Despite representing the highest level of cooperation, multi-user object manipulation has rarely been studied. This paper describes a behavioral experiment in which the piano movers' problem (maneuvering a large object through a restricted space) was used to investigate object manipulation by pairs of participants in a VE. Participants' interactions with the object were integrated together either symmetrically or asymmetrically. The former only allowed the common component of participants' actions to take place, but the latter used the mean. Symmetric action integration was superior for sections of the task when both participants had to perform similar actions, but if participants had to move in different ways (e.g., one maneuvering themselves through a narrow opening while the other traveled down a wide corridor) then asymmetric integration was superior. With both forms of integration, the extent to which participants coordinated their actions was poor and this led to a substantial cooperation overhead (the reduction in performance caused by having to cooperate with another person)

Driver behaviour with adaptive cruise control

This paper reports on the evaluation of adaptive cruise control (ACC) from a psychological perspective. It was anticipated that ACC would have an effect upon the psychology of driving, i.e. make the driver feel like they have less control, reduce the level of trust in the vehicle, make drivers less situationally aware, but workload might be reduced and driving might be less stressful. Drivers were asked to drive in a driving simulator under manual and ACC conditions. Analysis of variance techniques were used to determine the effects of workload (i.e. amount of traffic) and feedback (i.e. degree of information from the ACC system) on the psychological variables measured (i.e. locus of control, trust, workload, stress, mental models and situation awareness). The results showed that: locus of control and trust were unaffected by ACC, whereas situation awareness, workload and stress were reduced by ACC. Ways of improving situation awareness could include cues to help the driver predict vehicle trajectory and identify conflicts

Comparing verbal media for alarm handling: Speech versus textual displays

The rise of computers in command and control domains has meant that control operations can be performed via desk-based visual display terminals. This trend has also produced the potential to display information to operators in a variety of formats. Of particular interest has been the use of text-based displays for alarm presentation. There are possible limitations to the use of text for alarm presentation, not least of which is the need for a dedicated alarms display screen (or, at least, a display page). Given the capability of computers to synthesize speech, it is possible that speech-based alarms could generate the same information as text-based displays without the need for dedicated screen space. In this paper an experimental comparison of speech-based and text-based displays for presentation of alarms is reported. The findings show that speech leads to longer response times than text displays, but that it has minimal effect on the efficacy of fault handling. The results are discussed within the alarm initiated activities framework and implications for alarm system design are outlined