This paper presents the logic behind the increasingly neglected proposition that prices set in developed financial markets are determined as if all investors are rational. It contends that realistically, market rationality needs to be defined so as to allow investors to be uncertain about the...

This paper reconsiders return-volume dependence for the U.S. and six international equity markets. We contribute to previous work by proposing surprise volume as a new proxy for private information flow and apply extreme value theory in studying dependence for large volume and return, i.e. under...

Excessive leverage, i.e. the abuse of debt financing, is considered one of the  primary factors in the default of financial institutions. Systemic risk results from correlations between individual default probabilities that cannot be considered independent. Based on the structural framework...

Macroeconomic models of nominal exchange rates perform poorly. In sample, R 2 statistics as high as 10 percent are rare. Out of sample, these models are typically out-forecast by a naïve random walk. This paper presents a model of a new kind. Instead of relying exclusively on macroeconomic...

Dealers need to search for quotes in many of the world's largest markets (such as spot foreign exchange, US government bonds, and the London Stock Exchange). This search affects trading cost. We estimate the share of total trading cost attributable to search. Our experiments show that the share...

Estimation of the tail index of stationary, fat-tailed return distributions is non-trivial since the well-known Hill estimator is optimal only under iid draws from an exact Pareto model. We provide a small sample simulation study of recently suggested adaptive estimators under ARCH-type...

Firms undertake a variety of actions to reduce risk through diversification, including entering diverse lines of business, taking on project partners, and maintaining portfolios of risky projects such as R&D or natural resource exploration. By a well-known argument, securities holders do not...

Accurate modeling of extremal price changes is vital to financial risk management. We examine the small sample properties of adaptive tail index estimators under the class of student-t marginal distribution functions including GARCH and propose a model-based bias-corrected estimation approach....

We examine the optimal trading strategy for an investment fund which in the absence of transactions costs would like to maintain assets in exogenously fixed proportions, e.g. 60/30/10 in stocks, bonds and cash. Transactions costs are assumed to be proportional, but may differ with buying and...

While much attention has been focused on the optimal ratio of a firm's debt to equity, the "optimal" or best balance between bond financing and (longer-term) bank financing has scarcely been addressed. This essay examines the principal differences between an economy with a well-developed...