Inducing agents to report hidden trades: a theory of an intermediary
When contracts are unobserved, agents may have the incentive to promise the same asset to multiple counterparties and subsequently default. The author constructs an optimal mechanism that induces agents to reveal all their trades voluntarily. The mechanism allows agents to report every contract they enter, and it makes public the names of agents who have reached some prespecified position limit. In some cases, an agent's position limit must be higher than the number of contracts he enters in equilibrium. The mechanism has some features of a clearinghouse. ; Supersedes Working Paper 09-10
Duality and arbitrage with transactions costs: theory and applications
Recent advances in duality theory have made it easier to discover relationships between asset prices and the portfolio choices based on them. But this approach to arbitrage-free securities markets has yet to be extended and applied to economies with transactions costs. This paper does so, within the context of a general state-preference model of securities markets. Several applications are developed to illustrate the nature of the theory and its potential to resolve a host of issues surrounding the effects of transactions costs on securities markets.
Interpreting the volatility smile: an examination of the information content of option prices
This paper evaluates how useful the information contained in options prices is for predicting future price movements of the underlying assets. We develop an improved semiparametric methodology for estimating risk-neutral probability density functions (PDFs), which allows for skewness and intertemporal variation in higher moments. We use this technique to estimate a daily time series of risk-neutral PDFs spanning the late 1980's through 1999, for S&P 500 futures, U.S. dollar/Japanese yen futures and U.S. dollar/deutsche mark futures, using options on these futures. For the foreign exchange ...
Economic theory and asset bubbles
The author summarizes what economic theory tells us about when asset price bubbles can occur and what the welfare implications are from bursting them. In some cases, bursting a bubble may make society worse off by exacerbating the market distortions that give rise to the bubble in the first place.
The economic outlook and the Fed's balance sheet: the issue of \"how\" versus \"when\"
Remarks at the Association for a Better New York Breakfast Meeting, Grand Hyatt, New York.
Asset market hangovers and economic growth
During the early 1990s, asset prices and investment were unusually weak throughout the industrial world. This paper highlights this stylized fact, and connects it with another: in most of the industrial world, asset markets boomed for several years before collapsing around 1989. The paper suggests that the sluggish asset markets and investment growth of the early 1990s may represent, in part, symptoms of an "asset market hangover," that is, the lingering effects on real activity of collapsing speculative bubbles. The analysis relies on cross-country data for equity and real estate markets ...
On asset-liability matching and federal deposit and pension insurance
Asset-liability mismatch was a principal cause of the Savings and Loan Crisis of the 1980s. The federal government's failure to recognize the mismatch risk early on and manage it properly led to huge losses by the Federal Savings and Loan Insurance Corporation, which had to be covered by taxpayers. In dealing with the problems now facing the defined-benefit pension system and the Pension Benefit Guaranty Corporation (PBGC), the government seems to be making some of the same mistakes it made then. Among the causes is the fallacious belief that because pension funds have a long time horizon the ...
Recourse risk in asset sales