Measuring the risk of default in six highly indebted countries

The price of debt on the secondary market reflects the risk that the debtor country might default on its external debt. Using the option-pricing theory, the authors identify the factors that influenced the risk of default in six highly indebted countries (Argentina, Brazil, Chile, Mexico, Venezuela, and Poland) from 1986 to 1990. In particular, they provide a measure of the debtor countries'willingness to pay. They identify the parameters of the stochastic process followed by this variable, so this approach can be used to predict the future price of debt. Their model also emphasizes that a debt-reduction operation may lead to a significant increase in the price of debt on the secondary market. This effect appears to be linked to the initial stock of external debt, as suggested by the debt overhang hypothesis. Finally, the authors show empirically that a country's willingness to pay is significantly influenced by changes in indicators of thecountry's ability to pay (for example, by an increase in reserves or in GDP growth), and by exogenous events such as the increase in commercial banks'loan reserves in mid-1987 or the Brady Plan announcement in 1989.Economic Theory&Research,Housing Finance,Environmental Economics&Policies,Banks&Banking Reform,Strategic Debt Management

Uncertainty and global warming : an option - pricing approach to policy

Uncertainty is inherent in the analysis of global warming issues. Not only is there considerable scientific uncertainty about the magnitude of global warming, but even if that problem were resolved, there is uncertainty about what monetary value to assign to the costs and benefits of various policies to reduce global warming. And yet the influence of uncertainty in policymaker's decisions is ignored in most studies of the issue. The authors try to explicitly incorporate the effect of uncertainty in the choice of global warming abatement policies. The approach they develop draws on the emerging literature on investment under uncertainty - in particular, that on the option-valuation approach. Their numerical applications focus on the Cline's (1992) analysis of global warming, but it may be applied to a range of global warming analyses. First, they assess whether it is optimal to implement Cline's strategy of limiting global warming today, or whether it should be postponed, and for how long. Then, they identify the optimal policy to be implemented today for different levels of uncertainty about the costs and benefits of policies to reduce global warming.Economic Theory&Research,Montreal Protocol,Decentralization,Climate Change,Environmental Economics&Policies,Economic Theory&Research,Climate Change,Montreal Protocol,Carbon Policy and Trading,Environmental Economics&Policies

Long-term risk management of nuclear waste : a real options approach

In this paper, we investigate the optimal timing for deep geological disposal of nuclear waste. Our model is based on the real options approach to investment under uncertainty. In this context, the problem is similar to the optimal exercise policy for a perpetual American spread option. The potential usefulness of such a model for actual decision-making on a sensitive issue is illustrated by some numerical simulations.risk management; optimal stopping; real and American options

Stock options and managers' incentives to cheat

This paper develops a continuous-time real options' pricing model to study managers' incentives to cheat in the presence of equity-based compensation plans. It shows that managers' incentives to cheat are strongly influenced by the efficiency of the justice. The model's main result is that managers have greater incentives to commit fraudulent actions under stock options than under common stocks based compensation plan

Risk aversion and the composition of wealth in the demand for full insurance coverage

The economic literature on the demand for non-life insurance has mainly emphasized the influence of risk aversion. Under the assumption of decreasing absolute risk aversion, it has been shown that insurance should be an inferior good. Under the assumption of increasing relative risk aversion, it has been shown that the wealth elasticity of insurance should exceed one. These seemingly contradictory propositions are due to strong implicit assumptions about changes in the composition of wealth. The present paper proposes a more general model where the effects of risk aversion and of the composition of wealth are considered jointly. Necessary and sufficient conditions for a decrease in the willingness-to-insure are defined, and their implications for the interpretation of empirical results on insurance spending and risk-averse behavior are pointed out

American Parisian options

In this article, we describe the various sorts of American Parisian options and propose valuation formulae. Although there is no closed-form valuation for these products in the non-perpetual case, we have been able to reformulate their price as a function of the exercise frontier. In the perpetual case, closed-form solutions or approximations are obtained by relying on excursion theory. We derive the Laplace transform of the first instant Brownian motion reaches a positive level or, without interruption, spends a given amount of time below zero. We perform a detailed comparison of perpetual standard, barrier and Parisian option

Options listing and the volatility of the underling asset: a study on the derivative market function

There are basic misunderstandings on derivative markets. Some professionals believe that they are a kind of casinos and have no utility for the investors. This work looks at the effects of options introduction in the Brazilian market, seeking for another benefit for this introduction: changes in the stocks risk leveI. Our results are the same found in the US and other markets: the options introduction reduces the stocks volatility. We also found that there is a slight indication that the volatility becames more stochastic with this alternative

Regulated and non-regulated companies, technology adoption in experimental markets for emission permits, and option contracts

This paper examines the investment strategies of regulated companies in abatement technologies, market participants' trading behaviors, and the liquidity level in an inter-temporal cap{and{trade market using laboratory experiments. The experimental analysis is performed under varying market structures: the exclusive presence of regulated companies; the inclusion of subjects not liable for compliance with environmental regulations; the availability of plain vanilla options. In line with theoretical models on irreversible abatement investment, the first experiment shows that regulated companies trade permits at a premium. At the same time the existence of a strict enforcement structure effectively prompts investments in new technologies.The second experiment shows that the presence of non-regulated companies adds liquidity to the market and does not increase price volatility. The last experiment enablesus to investigate the impact of the presence of cash-settled options contracts on the trading strategies of regulated companies. Their expected emissions appears to play a significant rolein the choice of their options strategy

It’s the News, Stupid! The Relationship Between News Attention, Literacy, Trust, Greenwashing Perceptions and Sustainable Finance Investment in Switzerland

Although sustainable finance (SF) has become a leading trend in the financial industry, little is known about how attention to news on SF, trust in the industry, and recent accusations of greenwashing affect the likelihood to invest in SF products. Based on a survey of a representative sample of Swiss citizens, we find that more attention to news about SF and trust in SF are positively related to the likelihood of investing in SF, whereas greenwashing perceptions are negatively related. Furthermore, attention to SF and economic news are positive predictors of sustainable finance literacy (SFL), whereas attention to SF news is negatively associated with greenwashing perception of SF. Collectively, these findings imply that engaging citizens with SF investments, particularly information seeking on SF news and trust in SF rather than SFL, need to be fostered. The Implications of the communication practices of the SF industry and policy implications are discussed