Volatility Spillover in India, USA and Japan Investigation of Recession Effects

In the past decades, there has been an unprecedented increase in cross border transactions between countries in terms of goods and financial flows. This integration has been fuelled by search of lower risk investments, risk diversification, search for cost effective and more efficient factors of production and dreams of global dominance in the world wide market place. An important result of these capital flows was its impact on linkages of global asset returns and spillover of volatility from one capital market to another. This study aims to understand the spillover effect between the US, the Japan capital markets and Indian equity index (Sensex). We analyze whether the volatility spillover is contemporaneous (directly in the very same day), or dynamic/lagged (with one day lag). A GARCH (1,1) model of modelling volatility has been undertaken for this purpose. This paper concludes that contemporary volatility of the Japan capital markets influenced Sensex in the pre-recession period but in the post recession there was no significant contemporaneous spillover from USA and Japan capital markets to Sensex. However, US became a significant factor while considering dynamic spillover in the post recession era. Also, there was no bidirectional volatility spillover from India to US. But, the study showed evidence of dynamic volatility spillover from Indian market to Japanese Capital market

Volatility Spillover in India, USA and Japan Investigation of Recession Effects

In the past decades, there has been an unprecedented increase in cross border transactions between countries in terms of goods and financial flows. This integration has been fuelled by search of lower risk investments, risk diversification, search for cost effective and more efficient factors of production and dreams of global dominance in the world wide market place. An important result of these capital flows was its impact on linkages of global asset returns and spillover of volatility from one capital market to another. This study aims to understand the spillover effect between the US, the Japan capital markets and Indian equity index (Sensex). We analyze whether the volatility spillover is contemporaneous (directly in the very same day), or dynamic/lagged (with one day lag). A GARCH (1,1) model of modelling volatility has been undertaken for this purpose. This paper concludes that contemporary volatility of the Japan capital markets influenced Sensex in the pre-recession period but in the post recession there was no significant contemporaneous spillover from USA and Japan capital markets to Sensex. However, US became a significant factor while considering dynamic spillover in the post recession era. Also, there was no bidirectional volatility spillover from India to US. But, the study showed evidence of dynamic volatility spillover from Indian market to Japanese Capital market.Volatility, Spillover, GARCH, Recession effects

Price, Return and Volatility Linkages of Base Metal Futures traded in India

In this study the price, return and volatility behaviour of base metals (aluminium, copper, nickel, lead and zinc) which are traded on Indian commodity exchange - Multi Commodity Exchange (MCX) and International commodity exchange – London Metal Exchange (LME) are analysed. The time period chosen for the study is from November 1st, 2006 to January 30th, 2013. The paper attempts to demonstrate the linkages in price, return and volatility across the two markets for the five metals through three models - (a) Price – Co-integration methodology and Error Correction Mechanism Model (b) Return and Volatility – Modified GARCH model (c) Return and Volatility - ARMA-GARCH in mean model – Innovations Model. The findings of the paper suggest that there exists a strong linkage across the price, return and volatility of futures contracts traded on MCX and LME respectively. Given the level of linkages, the imposition of Commodity Transaction Taxes on sellers at the time of trading of these five base metals on Indian Commodity exchanges would lead to a fall in their trading volume as traders and speculators would escape the higher transaction cost of hedging by investing in International Exchanges instead of Indian Commodity exchanges. This movement from Indian to the International markets would defy the intention of imposition of the tax, as the government expects to earn revenue from the tax, and this would also defeat the very purpose of price discovery in the commodity exchanges in India

ALGORITHM FOR PAYOFF CALCULATION FOR OPTION TRADING STRATEGIES USING VECTOR TERMINOLOGY

The aim of this paper is to develop an algorithm for calculating and plotting payoff of option strategies for a portfolio of path independent vanilla and exotic options. A general algorithm for calculating the vector matrix for any arbitrary combination strategy is also developed for some of the commonly option trading strategies.option trading strategy, payoff, vector, vanilla and exotic option

Valuation of 3G spectrum license in India: A real option approach

India is about to enter a new technological phase as far as mobile technology is concerned. After almost a decade of existence, Third Generation (3G) mobile technology will be rolled out in India. The licenses for the same were auctioned in April – May 2010 and 3G licenses were allocated to the winners in September 2010. Nine private telecom operators entered the bidding for the license and eventually seven won the licenses. The bidding was intense and eventually the aggregate fees of the license as received by the government were almost twice the expected amount. In the backdrop of experience of 3G auction winners in UK and Germany who paid huge sums to acquire the 3G licenses and later lost their market capitalization as the markets perceived that the price paid for the license was more than the actual value of the license, analysts in India were concerned if the operators had paid too much for the licenses. In this report aggregate value of the 3G licenses is calculated using both traditional discounted cash flow approach and real options approach. We find that the rollout of 3G services gives an internal rate of return of 14.2%over the life of the license. If we assume an internal rate of return of 15% for the telecom operators then the aggregate license value comes out to be INR 594 Billion which is 12% lower than what the operators have paid to acquire the license. We also found out that the value of the license as calculated from the real options methodology is INR 798 Billion which is 17.8% higher than the aggregate value paid by the operators. Hence we see that DCF valuation suggests that the licenses were overvalued while Real Options methodology suggests that the licenses were undervalued. The report discusses the reasons for differences between real option valuation and DCF valuation of the license, the possible challenges that the 3Goperators might face in the short to long term and what are the key enablers for the growth of3G services if they want to extract the maximum mileage out of the 3G technology. The report recommends that in future while allocating telecom licenses or licenses in sectors where high and irreversible investment is required and there is a scope for the licensees to invest in phases or in modules, the government should consider real options methodology for setting the price of the license., or the base price of the licenses in case the government decides to follow an auction methodology3G spectrum, mobile technology, valuation, real options, DCF

Myopic investment view of the Indian mutual fund industry

This paper examines the investment behavior of Indian mutual fund industry. Since the majority of investors who invest in mutual funds are salaried individuals or individuals that own SMEs, the Indian Mutual Fund industry should have a long term investment horizon. However, the data from all mutual funds for the periods December 2007 to May 2008 and December 2008 to May 2009 reveals that the mutual fund industry has adjusted its position on a short term basis in tandem with the short term volatility of the market. The findings substantiate the SEBI Chairman’s observation that there is an urgent need to set up investment norms with regard to the holding period for stocks owned by the Indian mutual fund industryMutual Fund, short term volatility, asset under management, investment churn.

Mergers and Acquisitions: A pre-post analysis for the Indian financial services sector

This paper examines the Mergers & Acquisitions scenario of the Indian Financial Services Sector. The data for eighty cases of M&A in the period from March 1993- Feb 2010 is collected for a set of ten financial parameters representing the various characteristics of a firm. All the cases have been analyzed individually and collectively to determine the overall effects of M&A in the industry. The results of the study indicate that PAT and PBDITA have been positively affected after the merger but the liquidity condition represented by Current Ratio has deteriorated. Also Cost Efficiency and Interest Coverage have improved and deteriorated in equal number of cases. Interest Coverage remains an important factor in determining the return on shareholders’ funds both before and after the merger but Profit Margin also becomes important after the merger. And looking at the diversification effects of merger, in two out of the three cases there has been a reduction in total and systematic risk.Mergers & Acquisitions,Financial Services Sector,liquidity

Algorithm for payoff calculation for option trading strategies using vector terminology

The aim of this paper is to develop an algorithm for calculating and plotting payoff of option strategies for a portfolio of path independent vanilla and exotic options. A general algorithm for calculating the vector matrix for any arbitrary combination strategy is also developed for some of the commonly option trading strategies.option trading strategies, vector

Hedging Greeks for a portfolio of options using linear and quadratic programming

The aim of this paper is to develop a hedging methodology for making a portfolio of options delta, vega and gamma neutral by taking positions in other available options, and simultaneously minimizing the net premium to be paid for the hedging. A quadratic programming solution for the problem is formulated, and then it is approximated to a linear programming solution. A prototype for the linear programming solution has been developed in MS Excel using VBA.Hedging, Greeks, portfolio of options

Analysis of WIMAX/BWA Licensing in India: A real option approach

Indian Internet and broadband market has experienced very slow growth and limited penetration till now. The introduction of Broadband Wireless Access (BWA) is expected to aid in increasing the penetration of internet and broadband in India. The report sheds light on the guidelines and procedure used in 4G/BWA spectrum auction and presents comparative analysis of the competing technologies, providing the information about suitability of each technology available. Recently held 4G/ BWA spectrum auction saw enthusiastic participation by the industry and even saw some new entrants in Indian broadband market. Government benefited by Rs, 385bn that it earned as revenue from the auction of the spectrum and projected it as successful auction. However, the question remains if the auctions were efficient and whether they led to creation of value or will it prove to be burden to the telecom operators and will depress their balance sheet for years to come. The report uses both traditional valuation methods such as Discounted Cash Flow as well as Real Option approach to answer such questions. Using DCF analysis, the broadband subscribers have been forecasted to grow from present 13.77mn to 544mn by the end of 2025. The wireless subscribers are forecasted to be 70% of the total broadband subscribers after 5 years of roll out as it will be difficult to replace all wireline subscribers with wireless subscribers in India due to the high cost of wireless broadband and new technology. WiMAX is expected to increase its presence with time and reach 90mn subscribers from meager 0.35mn subscribers by 2025. Using industry wide cost of capital as 12.05%, the Net Present Value has been found Rs 221bn aggregate with an IRR of 17.1%. Using Real option approach, the value of license has been calculated as Rs 437bn which is 13.5% more than the spectrum fees paid by the operators. This mismatch, between the auction value and the correct value that should have been discovered by supply-demand dynamics, can be due to limited participants in BWA spectrum auctions and companies such as TATA and Reliance opting out of the auction process midway as well as uncertainty about acceptance of new technology with Indian subscribers.WiMAX, broadband, 3G spectrum, 4G,broadband wireless access, valuation, licensing, real option