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(2007)ThesisThis dissertation presents an examination of the trading behaviour of active Australian fund managers. The thesis begins with an analysis of how fund manager trades relate to stock returns in the past, the present, and the future. The dissertation next proceeds to investigating how fund size affects fund performance, trading and portfolio construction. Finally, using earnings announcements as the locus for trading sequences, we analyse the nature of the information used by fund managers to predict stock returns. This research is presented in the form of three essays. The first essay investigates how active fund manager trades relate to stock returns. Using a unique database of daily transactions from Australian equity managers, we document that our sample of institutional investors exhibit statistically and economically significant predictive power in forecasting future stock returns over the ten days following their trades. Furthermore, detailed analysis indicates that manager style is important in understanding the link between institutional trading and stock returns. The essay finds growth-oriented managers are momentum traders, while style-neutral and value managers are contrarian. Further, the contemporaneous relation between institutional trading and returns depends on trade size, broker use, and investment style. Finally, the study documents that trades and returns are inversely related for value/contrarian managers and directly related for style-neutral and growth managers. The second essay presents an analysis of how fund size affects investment performance. Recent studies find evidence that small funds outperform large funds. This fund size effect is commonly hypothesized to be caused by transaction costs. Due to the lack of transactions data, prior studies have investigated the transaction costs theory only indirectly. This study however, analyses the daily transactions of active Australian equity managers and finds aggregate market impact costs incurred by large managers are significantly greater than that Finally, the third essay examines the nature of price-sensitive earnings information used by package formation and portfolio characteristics consistent with transaction cost intimidation. An analysis of the interaction between transaction cost intimidation and the fund size effect documents that large managers pursue a highly active trading strategy, and accordingly suffer more from the fund size effect than is the case for large funds following a less active trading strategy. This suggests the fund size effect is related to transaction costs as trading activity is a good proxy for expected market impact. Finally, the third essay examines the nature of price-sensitive earnings information used by fund managers to trade. While a number of recent mutual fund performance studies find data, prior studies have investigated the transaction costs theory only indirectly. This study however, analyses the daily transactions of active Australian equity managers and finds aggregate market impact costs incurred by large managers are significantly greater than that Finally, the third essay examines the nature of price-sensitive earnings information used by package formation and portfolio characteristics consistent with transaction cost intimidation. An analysis of the interaction between transaction cost intimidation and the fund size effect documents that large managers pursue a highly active trading strategy, and accordingly suffer more from the fund size effect than is the case for large funds following a less active trading strategy. This suggests the fund size effect is related to transaction costs as trading activity is incurred by small managers. Furthermore, large managers exhibit preferences for trade evidence of outperformance relative to suitably constructed benchmarks, limited research exists as to whether such outperformance is due to privately collected information, or merely expedient interpretation of publicly released information. In this essay an examination of the trade sequences of fund managers around earnings announcements is performed, and evidence is presented revealing an increased Occurrence of buy-sell trade sequences around good announcements and vice versa for bad announcements. The results also show an increase in the frequency of fund managers not trading before announcements, only to subsequently purchase during good announcements. Taken together, this evidence suggests managers are reliant on private information before earnings announcements, as well as them engaging in 'interpretation' of earnings announcements when they do not receive a private signal.
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(2007)ThesisAccounting numbers are not only the products of peripheral economic events, but, by and large, can be consciously influenced from the effects of calculated business decisions and the selective applications of alternative reporting procedures. In academic parlance, the term accounting quality, or lack thereof, is often used to describe the extent to which these convoluting influences create a disparity between economic fundamentals and their numerical portrayal. This doctoral thesis speaks to three aspects of accounting quality; (i) Earnings Thresholds: A Re-Examination of the Role of Earnings Management, (ii) Earnings Manipulation and the Investigation of 'Red Flag' Accounting Ratios, and (iii) An Empirical Analysis of Standard and Poor's (S&Ps) Core Earnings metric. Each topic is outlined in a separate research paper.
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(2007)ThesisI examine the extent to which accounting information is reflected in market prices at different points in time. The efficient market hypothesis implies that price always reflects (value-relevant) accounting information, based on the assumptions of rational investors and costless arbitrage. I examine the time-series relation between price and value in two studies which are motivated by potential shortcomings of these assumptions. First, there is significant debate regarding the rationality of equity investors during the late 1990s. I therefore contrast the historical time-series relation between price and value with that of the 1990s, and show that the historical tendency of price to converge towards value breaks down during this period. Second, I examine the impact of the lack of close substitutes - an arbitrage cost - on the time-series relation between price and value. I find some evidence of a positive association between this arbitrage cost and both the level and the duration of the disparity between price and value. My results provide empirical support for the hypothesis that price requires time to reflect (accounting) information and has implications for research that assumes that prices are measured without error.
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(2007)ThesisThis thesis focuses on the development of a forecasting model for short- to medium-term electricity spot prices, based on modelling the dynamics of the supply and demand functions. It is found that the equilibrium assumption frequently adopted in electricity price models does not always hold; to overcome this problem, a notional demand process derived from the market clearing condition is proposed. Not only is this demand process able to capture all the price-affecting factors in one variable, but it also allows the equilibrium assumption to be satisfied and a spot price model to be built, using any appropriate form of hypothetical supply function. In addition, this thesis presents a model for approximating and modelling the bid stacks by capturing the points that govern their shape and location. Integrating these two models provides a realistic model that has a mean absolute percentage error of approximately 19% and 24% for week- and month-ahead forecasts respectively, when applied to the New South Wales (NSW) half-hourly electricity spot prices. Additionally, the density forecasting evaluation method proposed by Diebold et al. (1998) is employed in the thesis to assess the performance of the model. Besides the development of a spot price model, a two-part empirical study is made of the prices of NSW electricity futures contracts. The first part of the study develops a method based on the principle of certainty equivalence, which enables the market utility function to be recovered from a set of futures market quotes. The method is tested with two different sets of simulated data and works as expected. However, it is unable to obtain useful results from the NSW market quotes due to the poor data quality. The second part uses a regression method to investigate the relationship between futures prices and the descriptive statistics of the underlying spot prices. The result suggests that futures prices in NSW are linear combinations of the median and volatility of the final payoff.
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(2007)ThesisRecent international regulatory reforms have put more responsibility on auditors for detecting financial statement fraud. The recent changes to international auditing standards make it compulsory for members of the audit team to discuss the susceptibility of an entity to fraudulent misstatements at the audit planning stage. These standards do not stipulate the format of these group discussions, nor provide any explicit guidelines on how to carry out effective discussions. This dissertation reports on two studies that examine different discussion techniques which could lead to a better identification of audit fraud risks at the audit planning stage, and may in turn help in fraud detection. Study One tests whether two enhanced forms of interacting group processes (brainstorming guidelines and premortem instructions) have advantages over an interacting group (without brainstorming guidelines). The brainstorming group is provided with Osborn s (1957) original brainstorming guidelines. Premortem is a variation of the mental simulation idea developed by Klein (1999) invoking a scenario where participants actively search for a flaw in their plans. The auditors in both the brainstorming group treatment and the premortem group treatment generated a larger number of potential frauds than the interacting group treatment. These results were robust across a range of dependent variables used to measure quantity and quality of fraud items. The results also show that more premortem groups listed rare frauds compared to the other two group structures. There was a negative relationship between the number of items listed and the assessed likelihood of fraud. Participants who estimated a higher likelihood of fraud provided a more complete mental simulation of how a fraud could be perpetrated. Study Two focuses on the individual brainstorming phase which may occur before the group brainstorming session. It examines whether giving additional brainstorming guidelines and task decomposing (in addition to the original brainstorming guidelines), improve performance compared to having only the original brainstorming guidelines. Both the additional brainstorming guidelines and the task decomposition treatments generated a larger number of potential frauds than the brainstorming guidelines treatment. Task decomposition helps participants focus equally on all task subcategories leading to a more diverse set of ideas.
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(2007)ThesisWe employ the Reuters database to compare execution costs for 2,330 matched-pair securities across the top 7 equity markets in the Dow Jones STOXX Global 1800 Index. This sample encompasses a wide variety of thirteen market design features. In addition, we investigate execution costs well beyond the most heavily traded stocks to include equities in the sixth through tenth deciles of traded value. Our findings indicate that full transparency of the limit order book to investors and a composite of unique NYSE features (but not the presence of the crowd) unequivocally reduce effective spreads. In contrast, a fully transparent limit order book revealed to brokers, the presence of a market maker, or the mixture of execution systems present on the LSE sharply increase effective spreads in both thickly and thinly-traded stocks. The effect of a physical trading floor is statistically significant but relatively small; it increases effective spreads slightly for thickly-traded firms, and reduces them for thinly-traded stocks. The findings for price impact are the same with three exceptions. First, the presence of a trading floor increases costs, dramatically so for thinlytraded stocks. Second, a fully transparent limit order book for brokers raises price impact for thickly traded stocks, but lowers price impacts for thinly traded firms. Third, in thinly-traded stocks, London s hybrid market decreases price impact, and in thickly-traded stocks, crowd trading on the NYSE and full transparency to investors decrease price impact. Finally, the results for realised spread are essentially the same as those for effective spread, with the exception that the effect of the presence of a trading floor is to reduce realised spreads. Overall, the London Stock Exchange is the highest execution cost market, and the NYSE is the lowest. This research includes a market-specific study of the effect on execution cost of the Liquidity Provider of Euronext Paris. Euronext Paris affords a natural experimental research design because a third of firms have Liquidity Providers and two thirds do not. Results indicate quoted spreads, effective spreads and realized spreads are significantly affected by the presence of a Liquidity Provider, but price impacts are not. On the one hand, this suggests that the thickly-traded stocks where the Liquidity Providers are prohibited have sufficient liquidity in their absence. On the other hand however, liquidity providers on Euronext Paris reduce effective and realised spreads in essentially all stocks. This finding suggests that the limit order book refreshes much more quickly after developing an imbalance of large size orders when Liquidity Providers can facilitate other liquidity suppliers in assessing picking off risk. The Liquidity Provider increases quoted spreads for thickly-traded firms from the first three traded value deciles while reducing quoted spreads for the lower deciles.
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(2007)ThesisThe French and Dutch refusal to ratify the European Constitution in 2005 and the collapse of many East German businesses post-reunification; are just some examples of the hurdles integrating nations face. Integration of nations affects many economic factors such as public good allocation, trade, production, labour, consumption and even macro-economic policy instruments. Therefore, it is important to understand what motivates integration. Few scholars have broached the subject of the integration of nations (see Goyal and Staal (2004)), where size asymmetry and historical dependence are considered. Starting with Alesina and Spolaore (2003)'s Size of Nations symmetric framework, we attempt to do this with a two nation (asymmetric in size) location model. The key findings are that size differentials and the constitutional design (the identity of the decision maker) matters. In this thesis, we consider the social planner (government) and voters. The social planner maximizes social welfare for his own nation. Voting outcomes become non-trivial as it depends on the number of alternatives and the voting system. We categorize integration into two main forms. Full Integration is when the two nations fully integrate to form a new one, only one capital remains. Federated Integration is where the nations integrate but retain some form of sovereignty; this is represented by the retention of both capitals. Size difference matters when two nations chose to integrate. As the size difference between the two nations increase it becomes harder for integration to occur; nations would integrate if there is no size difference. The identity of the decision maker will affect the threshold on size.
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(2007)ThesisIn this thesis we consider two comparative statics questions of changes in risk. The first question concerns situations where an individual faces some risk and has no control over the uncertain environment. In these situations we ask what kind of changes in risk will cause the individual's expected utility to increase. The second comparative statics question concerns situations where an individual faces some risk and has some control over the uncertain environment. In particular, we consider situations where the individual maximizes her expected utility with respect to some control parameter. Here we ask what kind of changes in risk will cause the individual's optimal value of the control parameter to increase. The existing literature has answered these questions for a class of individuals (for example, the class of risk averse individuals). This thesis differs from existing literature as it focuses on a given individual, and thus reveals some of the person-specific factors that affect individual?s responses to changes in risk. The aim of the thesis is to show how an order on distributions, termed single crossing likelihood ratio (SCLR) order, can intuitively answer both questions for a given individual. The main contributions of the thesis are as follows. First, the thesis presents the SCLR order and its main properties. Second, the thesis shows that the SCLR order can answer the above comparative statics questions in an intuitive way. In particular, the thesis shows that the answer to the above questions, with the use of the SCLR order, depends on a risk reference point which can be interpreted as a "certainty equivalent" point. Thus it is demonstrated that individual's responses to changes in risk are affected by her "certainty equivalent" point. Lastly, the results of the thesis can be used to provide an intuitive explanation of related existing results that were obtained for a class of individuals.
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(2007)ThesisIn this thesis we discuss option pricing and hedging under regime switching models. To the standard model we add jumps of various types. In particular, we consider a jump that is synchronous with a change in the regime state. Thus, for example, we can define a process such that the stock price moves to a high volatility state and simultaneously has a large downward jump in returns. This type of model is consistent with market experience. We derive the compensator for our synchronous jumps and price options on such a price process using Fourier transforms. We also test the model on S&P futures options and show that it performs significantly better than a jump diffusion model. Furthermore, we look at the problem of hedging options under finitely many regime states and with finitely many possible jump sizes. We find risk-free hedge portfolios using the risk-free asset, the underlying asset, and finitely many options. Our risk-free trading strategy is consistent with any equivalent martingale measure, and so does not in itself specify which measure should be used to price options.
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(2007)ThesisThe increase in the use of copulas has introduced implementation issues for both practitioners and researchers. One of the issues is to obtain a copula function for a given set of data. The most common approaches for the estimation of the parameters of the copula functions have been the Maximum Likelihood Estimator (MLE) and the Inference Functions for Margins (IFM) methods. Archimedean copulas are one of the most important classes of copulas that are widely used in both finance and insurance for modelling dependent risks. However, simulating multivariate Archimedean copulas has always been a difficult task as the number of dimensions increases. The assessment of capital requirements has always been an important application of stochastic modelling. Capital requirements can vary significantly depending on the model adopted. Several professional bodies have recently discussed the concept of dependencies between insurance risks. They suggest that insurers should use a technique based on copulas to describe the dependence of risks within an insurance company in the context of solvency assessment. The first contribution of this thesis is to provide an insight into the efficiency of parameter estimation methods. This thesis uses numerical experiments to assess the performance of the two common approaches. The second contribution of this thesis is to present a new algorithm to simulate multivariate Exchangeable Archimedean copulas. This algorithm provides a practical solution for simulating one-parameter multivariate Archimedean copulas. Numerical experiments are used to apply this algorithm to determine the "additional" economic capital for an insurance company with multiple lines of business that wants to expand its business by adding another line of business and where the businesses are dependent. The third contribution of this thesis is to quantify the impact of the choice of copulas on the solvency measure of a general insurer within a Dynamic Financial Analysis modelling framework. The results of our experiments provide important guidance for the capital assessment for general insurers.