Jacob Boudoukh, Matthew Richardson, Richard Stanton and Robert F. Whitelaw The standard VaR approach considers only terminal risk, completely ignoring the path of the portfolio value prior to this final horizon. This assumption is unrealistic—interim risk may be critical in a mark-to-market environment because interim values of a portfolio may generate margin calls and affect… Read more
Articles
ACTIVE RISK AND INFORMATION RATIO
Edward Qian and Ronald Hua One of the underlying assumptions of the Fundamental Law of Active Management is that the active risk of an active investment strategy equates estimated tracking error by a risk model. We show there is an additional source of active risk that is unique to each strategy. This strategy risk is… Read more
THE IPO QUIET PERIOD REVISITED
Daniel J. Bradley, Bradford D. Jordan, Jay R. Ritter, and Jack G. Wolf A newly public company is subject to a “quiet period,” which restricts insiders and affiliated underwriters from issuing earnings forecasts and research reports regarding the firm for a specified period following the initial public offering (IPO). As soon as this quiet period… Read more
CORRELATED DEFAULT PROCESSES: A CRITERION-BASED COPULA APPROACH
Sanjiv R. Das and Gary Geng In this paper, we develop a methodology to model, simulate and assess the joint default process of hundreds of issuers. Our study is based on a data set of default probabilities supplied by Moody’s Risk Management Services. We undertake an empirical examination of the joint stochastic process of default… Read more
VALUING HIGH YIELD BONDS: A BUSINESS MODELING APPROACH
Thomas S. Y. Ho and Sang Bin Lee This paper proposes a valuation model of a bond with default risk. Extending from the Brennan and Schwartz real option model of a firm, the paper treats the firm as a contingent claim on the business risk. This paper introduces the “primitive firm,” which enables us to… Read more
STRUCTURAL VERSUS REDUCED FORM MODELS: A NEW INFORMATION BASED PERSPECTIVE
Robert A. Jarrow and Philip Protter This paper compares structural versus reduced form credit risk models from an information based perspective. We show that the difference between these two model types can be characterized in terms of the information assumed known by the modeler. Structural models assume that the modeler has the same information set… Read more
NON-PARAMETRIC ANALYSIS OF RATING TRANSITION AND DEFAULT DATA
Peter Fledelius, David Lando, and Jens Perch Nielsen We demonstrate the use of non-parametric intensity estimation—including construction of pointwise confidence sets—for analyzing rating transition data. We find that transition intensities away from the class studied here for illustration strongly depend on the direction of the previous move but that this dependence vanishes after 2–3 years… Read more
PREDICTIONS OF DEFAULT PROBABILITIES IN STRUCTURAL MODELS OF DEBT
Hayne E. Leland This paper examines default probabilities predicted by alternative “structural” models of risky corporate debt. We focus on default probabilities rather then credit spreads because (i) they are not affected by additional market factors such as liquidity and tax differences; and (ii) prediction of the relative likelihood of default is often stated as… Read more
INSTITUTIONAL MANAGEMENT FEES: ARE THE ANNUAL FEES YOU PAY FOR MONEY MANAGEMENT APPROPRIATE?
Sherry L. Jarrell and Edward S. O’Neal The authors quantify and analyze the current annual fees in the institutional mutual fund industry. They identify the primary determinants of fund expenses and develop a methodology for gauging whether fees on an institutional investment are consistent with other similar alternative investments. This methodology treats fixed income, domestic… Read more
MANAGED FUTURES AND HEDGE FUNDS: A MATCH MADE IN HEAVEN
Harry M. Kat In this paper we study the possible role of managed futures in portfolios of stocks, bonds, and hedge funds. We find that allocating to managed futures allows investors to achieve a very substantial degree of overall risk reduction at, in terms of expected return, relatively limited costs. Apart from their lower expected… Read more