J. Risk Financial Manag., Volume 13, Issue 8 (August 2020) – 27 articles

This paper evaluates an editorial and seven invaluable and interesting review papers for the Journal of Risk and Financial Management (JRFM). The topics covered include the rising complexity of bank regulatory capital requirements from global guidelines to their United States (US) implementation, connections among big data, computational science, economics, finance, marketing, management and psychology, factors, outcome, and the solutions of supply chain finance, with a review and future directions, time-varying price-volume relationship, adaptive market efficiency, and a survey of the empirical literature, improved covariance matrix estimation for portfolio risk measurement, stock investment and excess returns, with a critical review in the light of the efficient market hypothesis, and a cross section analysis of country equity returns, and a review of the empirical literature. Full article

Technological development brings about economic changes that affect most citizens, both in developed and undeveloped countries. The implementation of blockchain technologies that bring cryptocurrencies into the economy and everyday life also induce risks. Authorities are continuously concerned about ensuring balance, which is, among other things, a prudent attitude. Achieving this goal sometimes requires the development of standards and regulations applicable at the national or global level. This paper attempts to dive deeper into the worldwide operations, related to cryptocurrencies, as part of a general phenomenon, and also expose some of the intersections with cybercrime. Without impeding creativity, implementing suggested proposals must comply with the rules in effect and provide sufficient flexibility for adapting and integrating them. Different segments need to align or reposition, as alteration is only allowed in a positive way. Adopting cryptocurrency decisions should be unitary, based on standard policies. Full article

We address the paradox that financial innovations aimed at risk-sharing appear to have made the world riskier. Financial innovations facilitate hedging idiosyncratic risks among agents; however, aggregate risks can be hedged only with liquid assets. When risk-sharing is primitive, agents self-hedge and hold more liquid assets; this buffers aggregate risks, resulting in few correlated failures compared to when there is greater risk sharing. We apply this insight to build a model of a clearinghouse to show that as risk-sharing improves, aggregate liquidity falls but correlated failures rise. Public liquidity injections, for example, in the form of a lender-of-last-resort can reduce this systemic risk ex post, but induce lower ex-ante levels of private liquidity, which can in turn aggravate welfare costs from such injections. Full article

The effects of temporal aggregation and choice of sampling frequency are of great interest in modeling the dynamics of asset price volatility. We show how the squared low-frequency returns can be expressed in terms of the temporal aggregation of a high-frequency series. Based on the theory of temporal aggregation, we provide the link between the spectral density function of the squared low-frequency returns and that of the squared high-frequency returns. Furthermore, we analyze the properties of the spectral density function of realized volatility series, constructed from squared returns with different frequencies under temporal aggregation. Our theoretical results allow us to explain some findings reported recently and uncover new features of volatility in financial market indices. The theoretical findings are illustrated via the analysis of both low-frequency daily Standard and Poor’s 500 (S&P 500) returns from 1928 to 2011 and high-frequency 1-min S&P 500 returns from 1986 to 2007. Full article

Time series analysis of daily stock data and building predictive models are complicated. This paper presents a comparative study for stock price prediction using three different methods, namely autoregressive integrated moving average, artificial neural network, and stochastic process-geometric Brownian motion. Each of the methods is used to build predictive models using historical stock data collected from Yahoo Finance. Finally, output from each of the models is compared to the actual stock price. Empirical results show that the conventional statistical model and the stochastic model provide better approximation for next-day stock price prediction compared to the neural network model. Full article

Airtime lending default rates are typically lower than those experienced by banks and microfinance institutions (MFIs) but are likely to grow as the service is offered more widely. In this paper, credit scoring techniques are reviewed, and that knowledge is built upon to create an appropriate machine learning model for airtime lending. Over three million loans belonging to more than 41 thousand customers with a repayment period of three months are analysed. Logistic Regression, Decision Trees and Random Forest are evaluated for their ability to classify defaulters using several cross-validation approaches and the latter model performed best. When the default rate is below 2%, it is better to offer everyone a loan. For higher default rates, the model substantially enhances profitability. The model quadruples the tolerable level of default rate for breaking even from 8% to 32%. Nonlinear classification models offer considerable potential for credit scoring, coping with higher levels of default and therefore allowing for larger volumes of customers. Full article

This paper is devoted to the ability of selected European countries to face the potential economic crisis caused by COVID-19. Just as other pandemics in the past (e.g., SARS, Spanish influenza, etc.) have had negative economic effects on countries, the current COVID-19 pandemic is causing the beginning of another economic crisis where countries need to take measures to mitigate the economic effects. In our analysis, we focus on the impact of selected indicators on the GDP of European countries using a linear panel regression to identify significant indicators to set appropriate policies to eliminate potential negative consequences on economic growth due to the current recession. The European countries are divided into four groups according to the measures they took in the fiscal consolidation of the last economic crisis of 2008. In the analysis, we observed how the economic crisis influences GDP, country indebtedness, deficit, tax collection, interest rates, and the consumer confidence index. Our findings include that corporate income tax recorded the biggest decline among other tax collections. The interest rate grew in the group of countries most at risk from the economic crisis, while the interest rate fell in the group of countries that seemed to be safe for investors. The consumer confidence index can be considered interesting, as it fell sharply in the group of countries affected only minimally by the crisis (Switzerland, Finland). Full article

We present a model for active trading based on reinforcement machine learning and apply this to five major cryptocurrencies in circulation. In relation to a buy-and-hold approach, we demonstrate how this model yields enhanced risk-adjusted returns and serves to reduce downside risk. These findings hold when accounting for actual transaction costs. We conclude that real-world portfolio management application of the model is viable, yet, performance can vary based on how it is calibrated in test samples. Full article

The exchange rate is a key macroeconomic factor that affects international trade and the real economy of each country. The development of international trade creates conditions where volatility comes with the exchange rate. The purpose of this paper is to examine the effect of real effective exchange rate volatility on economic growth in the Central and Eastern European countries. Additionally, the effect, through three channels of influence on economic growth which vary on the measurement of exchange rate volatility, is examined. The study uses annual data for fourteen CEE countries for the period 2002–2018 to examine the nature and extends the impact of such movements on growth. The empirical findings using the fixed effects estimation for panel data reveal that the volatility of the exchange rate has a significant negative effect on real economic growth. The results appear robust with alternative measures of exchange rate volatility such as standard deviation and z-score. This paper suggests that policymakers should adopt different policies to keep the exchange rate stable in order to foster economic growth. Full article

Recent academic studies document that open market share repurchase announcements in the United States generate significantly lower returns than those reported in earlier studies. We find that the lower announcement return is associated with an increasing number of subsequent announcements in the more recent periods. Although the announcement period return from the initial announcement is positive, subsequent announcement returns are significantly decreasing. Further, we find that the decreasing returns of subsequent announcements are attributed to firms with negative past repurchase announcement returns. Our multivariate regression test results are consistent with the notion that the decreasing subsequent repurchase announcement returns are driven by hubris-endowed managers. Full article

Do investors believe that firm-level (i.e., idiosyncratic) risk of green (i.e., environmentally responsible) firms is relatively lower? How does high market volatility affect the investors’ view on the firm-level risk of green firms? This paper addresses these questions by investigating the relationship between firm-level (idiosyncratic) risk and firms’ environmental performance. Further, we examine the effect market volatility has on the relationship. We estimate fixed-effect panel models using 8036 firm-year observations across 793 firms. We test robustness of the results with difference-in-difference (DiD), propensity score matching (PSM) and dynamic panel with the generalized method of moments (GMM) estimations. We find that investors generally associate firms that perform well on the environmental front to be of lower risk. However, during periods of high market volatility, just performing better than the industry does not make the investors see the firms’ risk as being significantly lower. How well the firms perform in relation to the industry performance is associated with the investors believing that the firm’s risk is significantly lower. Full article

The recent evolution of prudential regulation establishes a new requirement for banks and supervisors to perform reverse stress test exercises in their risk assessment processes, aimed at detecting default or near-default scenarios. We propose a reverse stress test methodology based on a stochastic simulation optimization system. This methodology enables users to derive the critical combination of risk factors that, by triggering a preset key capital indicator threshold, causes the bank’s default, thus detecting the set of assumptions that defines the reverse stress test scenario. This article presents a theoretical presentation of the approach, providing a general description of the stochastic framework and, for illustrative purposes, an example of the application of the proposed methodology to the Italian banking sector, in order to illustrate the possible advantages of the approach in a simplified framework, which highlights the basic functioning of the model. In the paper, we also show how to take into account some relevant risk factor interactions and second round effects such as liquidity–solvency interlinkage and modeling of Pillar 2 risks including interest rate risk, sovereign risk, and reputational risk. The reverse stress test technique presented is a practical and manageable risk assessment approach, suitable for both micro- and macro-prudential analysis. Full article

Through an international business risk management lens, the widespread and catalytic implications of the 2020 COVID-19 pandemic on the supply chains (SCs) of fashion multinational corporations (MNC) are analyzed to contribute to existing research on supply chain management (SCM). While a movement towards agile, networked supply chain models had been in consideration for many firms prior to the outbreak, the pandemic highlights issues inherent in supply chains that employ concentrated production. We examined the current state of fashion supply chains, risks that have arisen historically and recently, and existing risk mitigation methods. We found that while lean supply chain management is primarily favored for its cost and waste reduction advantages, the structure is limited by the lack of supply chain transparency that results as well as the increasing demand volatility observed even before the COVID-19 outbreak. Although this problem might exist in the agile supply chain, agile supply chains combat this by focusing on enhancing communication and buyer-supplier relationships to improve information exchange. However, this structure also entails an associated increase in inventory and inventory costs. The COVID-19 pandemic has caused supply and demand disruptions which have resonating effects on supply chain activities and management, indicating a need to build flexibility to mitigate epidemic and demand risks. To address this, several strategies that firms can adopt to control for such risks are outlined and key areas for further research are identified which consider parties both upstream and downstream of the fashion supply chain. Full article

This paper examines the ongoing transition to the revised Organisation for the Harmonisation of Business Law in Africa Act on Accounting and Financial Reporting for companies in general and to the International Financial Reporting Standards for listed and group companies with a particular focus on recent institutional developments and corporate concerns. The study used 80 professional accountants, most of whom were members of the Institute of Chartered Accountants of Cameroon and academics. Using the descriptive statistics, the study shows that the transition to the revised OHADA brings about a high level of comparability and transparency of the financial statements, that the International Financial Reporting Standards can be implemented in Cameroon (but not fully), and that the benefit of the transition exceeds the cost. Full article

I investigate the question of how to construct a benchmark replicating portfolio consisting of a subset of the benchmark’s components. I consider two approaches: a sequential stepwise regression and another method based on factor models of security returns’ first and second moments. The first approach produces the standard hedge portfolio that has the maximum feasible correlation with the benchmark. The second approach produces weights that are proportional to a “signal-to-noise” ratio of factor beta to idiosyncratic volatility. Using a factor model of securities returns allows the use of a larger number of securities than the number of time periods used to estimate the parameters of the factor model. I also consider a second objective that maximizes expected returns subject to a target tracking error variance. The security selection criterion naturally extends to the product of the information ratio and the signal-to-noise ratio. The optimal tracking portfolio is either a one-fund or a two-fund portfolio rule consisting of the optimal hedging portfolio, the tangent portfolio or the global minimum variance portfolio, depending on what constraints are imposed on the objective function. I construct buy-and-hold replicating portfolios using the algorithms presented in the paper to track a widely followed stock index with very good results both in-sample and out-of-sample. Full article

The study investigated the impact of factors such as non-performing loans, CO₂ emissions, bank credit, and inflation on the variable sustainable economic growth for India, Brazil, and Romania during the period 2005–2017, through a panel data analysis. Specifically, we investigated the timeline before, during, and after economic turmoil, with a special focus on the global financial crisis. Our empirical results are valuable for both developing and developed nations. As a first result, we showed that CO₂ emissions increased the level of economic growth, but in this context, authorities should design suitable policies to limit its impact on the overall society. In addition, a single supervision mechanism increased the level of sustainable economic growth. Last but not the least, the period during and after the global financial crisis, sustainable economic growth decreased under the influence of bank credit, inflation, and non-performing loans. Within this framework, public authorities are called to design efficient economic, fiscal, and monetary policies. Full article

Asynchronous trading hours between the markets of Exchange-Traded Funds (ETFs) and their benchmarks not only make it difficult to apply a full replication strategy but also make the creation/redemption process ineffective and consequently distress the performance of international ETFs. Despite the exponential growth of the ETF industry in general and international ETFs in particular, the performance of international ETFs is under-researched. Therefore, this study evaluates the performance of US-listed international ETFs by analyzing the returns, volatilities, tracking ability and pricing efficiency. The study findings are useful for investors interested in understanding the performance dynamics of international ETFs. Full article

We empirically investigate the impact of capital structure on bank profitability using a quantile regression method in the Vietnamese banking system during 2007–2019. Our results suggest that the nonlinear relationship between capitalization and bank profitability is only significant at the 90th quantile. This is the first study to conclude that the turning point of capital ratio increases throughout the profitability distribution. Our findings thus suggest that a continuous increase in bank capital requirements does not necessarily result in higher bank profitability. Full article

This paper aims to examine the redefinition of rural actors and practices in the context of the Wind Farm Corridor of the Isthmus of Tehuantepec. That redefinition addresses issues such as the benefits of wind farms, the role of the land in the use of wind energy, requirements for the use of wind, arguments of disagreement with wind farms, manifestations of that disagreement, and the feasibility of community wind farms. Adopting a case study methodology from a qualitative perspective, and “worded” data collected through semi-structured interviews, it was detected that, despite the disapproval of residents of the Oaxacan Isthmus due to a dispossession claimed to the Federal Electricity Commission (Comisión Federal de Electricidad, CFE) and private companies, many of the landowners in Ciudad Ixtepec have decided to become wind entrepreneurs by a community wind farm, facing opposition and mistrust regarding their capacities. Full article

The novel coronavirus (COVID-19) pandemic spread globally from its outbreak in China in early 2020, negatively affecting economies and industries on a global scale. In line with historic crises and shock events including the 2002-04 SARS outbreak, the 2011 Christchurch earthquake and 2017 Hurricane Irma, COVID-19 has significantly impacted global economic conditions, causing significant economic downturns, company and industry failures, and increased unemployment. To understand how conditions created by the pandemic to date compare to the aforementioned shock events, we conducted a thorough literature review focusing on the presentation of panic buying and herd mentality behaviours, changes to discretionary consumer spending as defined by Maslow’s Hierarchy of Needs, and the impact of global media on these behaviours. The methodology utilised to analyse panic buying, herd mentality and altered patterns of consumer discretionary spending (according to Maslow’s theory) involved an analysis of consumer spending data, largely focused on Australian and American markets. Here, we analysed the volume and timing of consumer spending patterns; the volumes of spending on specific, highly-demanded consumer goods during the investigative period; and the distribution of spending on luxury and non-durable goods to identify the occurrence of these consumer behaviours. Moreover, to identify the presence of the media in influencing consumer behaviour we focused on web traffic to media sites, alongside keyword and phrase data mining. We conclude that, to date, consumer behaviour during the COVID-19 crisis appears to align with behaviours exhibited during historic shock events. We hope to contribute to the body of research on the early months of this pandemic before longer-term studies are available. Full article

This paper aims to trace the monthly responses of equity prices, long-term interest rates, and exchange rates in Asian developing markets to the US unconventional monetary policy (UMP). The main research question is to explore whether UMP shocks exist in those markets. We also consider the differences in the mean responses of those asset prices between traditional and non-traditional monetary policy phases. To address such concerns, we employ a panel vector autoregression with exogenous variables (Panel VARX) model and estimate the model by the least-squares dummy variable (LSDV) estimator in three different periods spanning from 2004M2 to 2018M4. The first finding is that UMP shocks from the US are associated with a surge in equity prices, a decline in long-term interest rates, and an appreciation of currencies in Asian developing markets. In contrast, the conventional monetary policy shocks from the US seem to exert adverse effects on these recipient countries. These empirical results suggest that the policymakers in Asian developing countries should cautiously take into account the spillover effects from the US unconventional monetary policy once it is executed. Full article

This paper offers an empirical characterization of the relation between the international price of oil and exchange rates that is both useful and reliable. Our characterization is useful because it rests on information of asset prices that are determined in functioning asset markets. Our characterization is reliable because its maintained assumptions are not rejected by the data. Four features differentiate our work from previous analyses. First, our reliance on bilateral rates opens previously ignored financial arbitrage opportunities between oil prices and exchange rates. Second, our emphasis on statistical testing makes our characterization empirically reliable. Specifically, we use a vector-error correction modeling strategy in which both oil prices and exchange rates are endogenous. This framework allows testing for the existence of an arbitrage relation, for the direction of causality, for parameter constancy, for white noise residuals, and for forecast accuracy. Third our reliance on data through 2020 makes our analysis timely. Fourth, to emphasize the advantages of our approach, we compare our results to those derived for formulations relying on effective exchange-rate indexes. Full article

We study the financial determinants of cash holdings and discuss the importance of firm size in the post-crisis period. We employ panel data regression analysis on a sample of 6629 non-financial and non-utility listed companies in the United Kingdom from 2010 to 2018. We focus on the comparative analysis of large, medium, and small size firms in terms of cash holdings. Our findings indicate that cash levels are higher for firms with riskier cash flows, more growth opportunities, and higher R&D expenditures. In contrast, the firms’ cash holdings decrease when the substitutes of cash, cash flows, and capital expenditures increase. We show that small-sized firms tend to hold more cash than their larger counterparts due to precautionary motives. Further, we confirm a significant and varying association between managerial ownership and cash holdings. The study is robust to different regression specifications, additional analyses, and endogeneity tests. Overall, we add to the prior literature by identifying the effect of firm-level attributes and governance characteristics on cash policy during the post-crisis period. To the best of the authors’ knowledge, this is the first work that provides insights on the way that firm characteristics impact cash holdings, considering the differences among firm size groupings. Full article

Based on agency theory, we focused on the influence of corporate governance in the dividend policy of large listed firms with headquarters in continental Europe countries. Previous research focused on the influence of corporate governance on the performance and risk of listed firms, but the influence of corporate governance on the dividend policy has rarely been addressed despite the importance of dividends for shareholders and the implications on the free cash-flow, whose application may be a source of conflicts between managers and shareholders. In this paper, we study the influence of a set of governance mechanisms on the dividend policy over 12 years (2002 to 2013). The results, based on a panel data analysis, support the importance of governance mechanisms toward the protection of shareholders’ interests, and reveal that the decisions on whether to pay dividends and how much to pay are grounded on different antecedents. Full article

This paper explores the effects of home-sharing platforms in general and Airbnb in particular on rental rates at a neighbourhood level. Using consumer-facing Airbnb data from ten neighbourhoods located within large metropolitan areas in the U.S. between 2013–2017, as well as rental data from the American online real estate database company, Zillow, this paper examines the relationship between Airbnb penetration and rental rates. The results indicate that the relationship is not as unanimous as once thought. Viewing the relationship at an aggregate level, an approach used by many researchers in the past, hides the complexities of the underlying effects. Instead, Airbnb’s impact on rental rates depends on a neighbourhood’s individual characteristics. This study also urges policy makers to create tailor-made solutions that help curb the negative impacts associated with the platform whilst still harnessing its economic benefits. Full article

This paper revisits the question whether volatilities of different markets and trading zones have a long-run equilibrium in the sense that they are fractionally cointegrated. We consider the U.S., Japanese and German stock, bond and foreign exchange markets to see whether there is fractional cointegration between the markets in one trading zone or for one market across trading zones. Also the other combinations of different markets in different trading zones are considered. Applying a purely semiparametric approach through the whole analysis shows fractional cointegration can only be found for a small minority of different cases. Investigating further we find that all volatility series show persistence breaks during the observation period which may be a reason for different findings in previous studies. Full article

A number of studies have investigated the relationship between financial sector development and economic growth; however, the impact of bank profitability on economic growth is still unclear. We investigate the link between bank profitability and economic growth in the Asia-Pacific region over the period 2004–2014. Using the system GMM estimator, our findings suggest that a profitable banking sector is a prerequisite for economic growth in the Asia-Pacific region and that the impact of bank profitability on economic growth is more prominent in small banking sectors. Perhaps surprisingly, we found that the bank size has a negative impact on GDP growth, with the influence of bank profitability on economic growth reducing as the size of the banking sector increases. Our results also show that the impact of profitability on economic growth is much larger in developed economies compared to small emerging and large emerging economies. Full article