Central counterparties (CCPs) are designed to be robust enough to withstand generally at least the simultaneous default of their largest two clearing members in extreme but plausible market conditions. This is called a 'cover 2' CCP. However, the extreme-and-implausible case cannot be excluded i.e. where the CCP would exhaust all funded financial resources (i.e. skin-in-the-game and the default fund D) to cover the default losses and would need to resort to unfunded recovery tools. The aim of this paper is to consider the resilience of a CCP for both default losses and non-default losses. For the former case, it is shown under plausible assumptions that the assessment (or cash call) for the surviving members is sufficient to recover a cover 1 CCP provided that the total assessment powers under the CCP Rulebook equals 2D. Given the extreme scenario we also take into account that some surviving clearing members might decide to leave the CCP. Some intuitive results for the cover 2 CCP case are provided as well. For the latter case, it is demonstrated that under plausible assumptions, the likelihood that a non-default loss is larger than the CCP's capital including one year of profits, is equivalent to an AAA risk. These observations together provide substantiation for the very low likelihood of a CCP's failure.
{"title":"Why Is a CCP Failure Very Unlikely?","authors":"Dennis McLaughlin, R. Berndsen","doi":"10.2139/ssrn.3759694","DOIUrl":"https://doi.org/10.2139/ssrn.3759694","url":null,"abstract":"Central counterparties (CCPs) are designed to be robust enough to withstand generally at least the simultaneous default of their largest two clearing members in extreme but plausible market conditions. This is called a 'cover 2' CCP. However, the extreme-and-implausible case cannot be excluded i.e. where the CCP would exhaust all funded financial resources (i.e. skin-in-the-game and the default fund D) to cover the default losses and would need to resort to unfunded recovery tools. The aim of this paper is to consider the resilience of a CCP for both default losses and non-default losses. For the former case, it is shown under plausible assumptions that the assessment (or cash call) for the surviving members is sufficient to recover a cover 1 CCP provided that the total assessment powers under the CCP Rulebook equals 2D. Given the extreme scenario we also take into account that some surviving clearing members might decide to leave the CCP. Some intuitive results for the cover 2 CCP case are provided as well. For the latter case, it is demonstrated that under plausible assumptions, the likelihood that a non-default loss is larger than the CCP's capital including one year of profits, is equivalent to an AAA risk. These observations together provide substantiation for the very low likelihood of a CCP's failure.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"40 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-12-17","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"122076457","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
Jonathan Brogaard, Nhan Le, Duc Duy Nguyen, Vathunyoo Sila
This paper examines whether shareholder litigation contributes to the decline in the number of U.S. stock market listings. We find that higher litigation risk induces firms to delist. We establish causality using two exogenous shocks to ex-ante litigation risk, including federal judge ideology and an influential judicial precedent. We find that the effect is at least partially driven by indirect costs of litigation and that being private can significantly reduce the threat of litigation. The results suggest that mitigating excessive litigation costs for public firms is crucial to ensure the continued vibrancy of the U.S. stock market.
{"title":"Does Shareholder Litigation Risk Cause Public Firms to Delist? Evidence From Securities Class Action Lawsuits","authors":"Jonathan Brogaard, Nhan Le, Duc Duy Nguyen, Vathunyoo Sila","doi":"10.2139/ssrn.3559949","DOIUrl":"https://doi.org/10.2139/ssrn.3559949","url":null,"abstract":"This paper examines whether shareholder litigation contributes to the decline in the number of U.S. stock market listings. We find that higher litigation risk induces firms to delist. We establish causality using two exogenous shocks to ex-ante litigation risk, including federal judge ideology and an influential judicial precedent. We find that the effect is at least partially driven by indirect costs of litigation and that being private can significantly reduce the threat of litigation. The results suggest that mitigating excessive litigation costs for public firms is crucial to ensure the continued vibrancy of the U.S. stock market.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"179 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-10-27","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"129678921","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
We examine how institutional investors react to geographically dispersed local shocks during periods of market turmoil. Using a sample of Real Estate Investment Trusts (REITs) that enables us to link the locations of institutional investors, REIT headquarters, and the locations of assets held by REITs, we find that the ownership of firms with an economic interest in the investor’s home MSA declined more in markets heavily affected by the pandemic. In addition, the responses to shocks in markets where REITs had an economic interest were larger in those markets in which REITs had larger portfolio allocations and in markets that are home to the investors. Importantly, based on the performance of their REIT portfolios after the onset of the COVID-19 shock, our results suggest that some institutional investors may have overreacted to the shock. Our study highlights the importance of geography in the formation of investors’ expectations during market crises.
{"title":"How Do Institutional Investors React to Geographically Dispersed Information Shocks? A Test Using the COVID-19 Pandemic","authors":"David C. Ling, Chongyu Wang, Tingyu Zhou","doi":"10.2139/ssrn.3812726","DOIUrl":"https://doi.org/10.2139/ssrn.3812726","url":null,"abstract":"We examine how institutional investors react to geographically dispersed local shocks during periods of market turmoil. Using a sample of Real Estate Investment Trusts (REITs) that enables us to link the locations of institutional investors, REIT headquarters, and the locations of assets held by REITs, we find that the ownership of firms with an economic interest in the investor’s home MSA declined more in markets heavily affected by the pandemic. In addition, the responses to shocks in markets where REITs had an economic interest were larger in those markets in which REITs had larger portfolio allocations and in markets that are home to the investors. Importantly, based on the performance of their REIT portfolios after the onset of the COVID-19 shock, our results suggest that some institutional investors may have overreacted to the shock. Our study highlights the importance of geography in the formation of investors’ expectations during market crises.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"97 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-10-08","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"123410363","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
This paper develops a network economy model to study the propagation of the COVID lockdown shock. Firms are related to each other through buyer–seller relations in the market for intermediate inputs. Firms choose production levels and input combinations using prices that emerge from local interactions. Nothing forbids trade at out-of-equilibrium prices. In such a setting, disequilibrium spills over from one market to another due to the interconnections between markets. These disequilibrium dynamics are capable of generating unemployment when workers released by contracting firms are not frictionlessly absorbed by expanding firms. We calibrate the model to the US economy using a data set with more than 200,000 buyer–seller relations between about 70,000 firms. Computational experiments on the calibrated economy suggest that the COVID lockdown generates a sizeable decline in GDP. The endogenously generated unemployment dynamics is a primary determinant of the cost of the lockdown.
{"title":"Disequilibrium Propagation of Quantity Constraints: Application to the COVID Lockdowns","authors":"A. Mandel, Vipin P. Veetil","doi":"10.2139/ssrn.3631014","DOIUrl":"https://doi.org/10.2139/ssrn.3631014","url":null,"abstract":"\u0000 This paper develops a network economy model to study the propagation of the COVID lockdown shock. Firms are related to each other through buyer–seller relations in the market for intermediate inputs. Firms choose production levels and input combinations using prices that emerge from local interactions. Nothing forbids trade at out-of-equilibrium prices. In such a setting, disequilibrium spills over from one market to another due to the interconnections between markets. These disequilibrium dynamics are capable of generating unemployment when workers released by contracting firms are not frictionlessly absorbed by expanding firms. We calibrate the model to the US economy using a data set with more than 200,000 buyer–seller relations between about 70,000 firms. Computational experiments on the calibrated economy suggest that the COVID lockdown generates a sizeable decline in GDP. The endogenously generated unemployment dynamics is a primary determinant of the cost of the lockdown.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"1 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-10-01","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"130222645","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
This paper explores the impact of green sentiment in US media on financial markets. Using textual analysis with a dictionary-based approach, we retrieve several scores of attention, tonality and uncertainty in the coverage of environmental news of four major US newspapers. We consider various weighting schemes to account for the visibility and relevance of the text sources and several sets of newspapers to measure the possible impact of their editorial line. Our results establish that greater attention to environmental news in US media reduced the excess returns of carbon-intensive stocks and increased their volatility over the last decade, especially when the coverage was negative or uncertain. The opposite result holds for the most virtuous green assets. Restricting the corpus of texts to conservative newspapers mitigates the impact of the coverage. Overall, our findings illustrate how rising environmental concerns lead investors to shift their asset allocation.
{"title":"A Green Wave in Media, a Change of Tack in Stock Markets","authors":"Marie Bessec, Julien Fouquau","doi":"10.2139/ssrn.3924837","DOIUrl":"https://doi.org/10.2139/ssrn.3924837","url":null,"abstract":"This paper explores the impact of green sentiment in US media on financial markets. Using textual analysis with a dictionary-based approach, we retrieve several scores of attention, tonality and uncertainty in the coverage of environmental news of four major US newspapers. We consider various weighting schemes to account for the visibility and relevance of the text sources and several sets of newspapers to measure the possible impact of their editorial line. Our results establish that greater attention to environmental news in US media reduced the excess returns of carbon-intensive stocks and increased their volatility over the last decade, especially when the coverage was negative or uncertain. The opposite result holds for the most virtuous green assets. Restricting the corpus of texts to conservative newspapers mitigates the impact of the coverage. Overall, our findings illustrate how rising environmental concerns lead investors to shift their asset allocation.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"9 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-09-16","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"128665972","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
The prior literature on role congruity theory has revolved around demographic-based expectations, emphasizing role incongruity derived from a mismatch between prescriptive expectations of distinct roles. In this paper, we depart from this traditional focus on between-role incongruity and explore an alternative source of role incongruity by examining how language can trigger the within-role incongruity of function-based expectations. Through an analysis of conference call transcripts and contracts for 7,649 deals during 2003–2018, we show that the incongruity of function-based expectations manifested through the language of the CFO increases banks’ perceived hazards, leading them to employ more debt contract covenants. In addition, by investigating the moderating effects of corresponding CEO language and media sentiment, we show how the social context and sentiment toward the firm weaken this incongruity effect. We discuss the theoretical implications of our study for future research on the sources of role incongruity and the antecedents of contract design.
{"title":"The Downside of CFO Function-Based Language Incongruity","authors":"Cyril Taewoong Um, Shiau-Ling Guo, Fabrice Lumineau, Wei Shi, Ruixiang Song","doi":"10.5465/amj.2019.0943","DOIUrl":"https://doi.org/10.5465/amj.2019.0943","url":null,"abstract":"The prior literature on role congruity theory has revolved around demographic-based expectations, emphasizing role incongruity derived from a mismatch between prescriptive expectations of distinct roles. In this paper, we depart from this traditional focus on between-role incongruity and explore an alternative source of role incongruity by examining how language can trigger the within-role incongruity of function-based expectations. Through an analysis of conference call transcripts and contracts for 7,649 deals during 2003–2018, we show that the incongruity of function-based expectations manifested through the language of the CFO increases banks’ perceived hazards, leading them to employ more debt contract covenants. In addition, by investigating the moderating effects of corresponding CEO language and media sentiment, we show how the social context and sentiment toward the firm weaken this incongruity effect. We discuss the theoretical implications of our study for future research on the sources of role incongruity and the antecedents of contract design.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"110 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-09-10","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"132789151","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
This is the supplemental material to the paper titled "The Oligopoly Lucas Tree." It includes additional empirical, theoretical, and quantitative results. It also includes illustration for the numerical algorithm for our model solution.
{"title":"Internet Appendix for 'The Oligopoly Lucas Tree'","authors":"W. Dou, Yan Ji, Wei Wu","doi":"10.2139/ssrn.3672133","DOIUrl":"https://doi.org/10.2139/ssrn.3672133","url":null,"abstract":"This is the supplemental material to the paper titled \"The Oligopoly Lucas Tree.\" It includes additional empirical, theoretical, and quantitative results. It also includes illustration for the numerical algorithm for our model solution.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"88 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-08-14","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"125071758","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
Stakeholder capitalism dominates the public debate about the future of the corporation. Business leaders and policymakers are calling for companies to abandon their stern adherence to profit maximization and take into consideration a broader set of stakeholder interests, on issues ranging from workplace equity to to climate change. Critics worry that managers can easily manipulate such lofty rhetoric to promote their own agenda and weaken constraints on their conduct that are typically benchmarked exclusively against financial performance. We argue instead that companies turn to stakeholders in order to derive information about the implications of their choices over a wider array of social issues that are outside the regular scope of corporate monitoring systems. The arrival of COVID in early 2020 provides a unique setting that allows us to test in practice how companies understand and utilize stakeholder governance. Forced to adjust swiftly to a new reality, companies might choose to economize and redirect resources away from peripheral stakeholder programs, as critics predict. Alternatively, COVID could help underscore how closely companies depend on their stakeholders, such as their employees, their communities, and their governments, leading to greater efforts to address these broader needs. To explore how companies viewed stakeholders under mounting pressure brought about by COVID, we conducted interviews with CEOs, general counsel, and other top executives from large, well-known publicly traded companies with an established stakeholder governance presence. Our sample includes companies from various industries, including some that fared particularly well during COVID such as technology, and others whose businesses were hit hard, such as travel and hospitality. Our findings suggest that companies turned to stakeholders during the pandemic with increasing frequency and asked for input on issues that are central to their business. Companies relied on stakeholder communications with employees to negotiate the remote working environment and arrange for continuous operation and reopenings, and with suppliers under immense strain as global trade contracted. Through stakeholder governance, companies understood better the needs of consumers in financial difficulty and the concerns of local authorities about unnecessary population movements, springing into action to support them. But stakeholders were not always successful in persuading managers and directors to follow their suggestions, particularly when stakeholders were themselves divided or where managers faced other critical hardships concurrently. Stakeholder governance emerges from our interviews as a systematic framework that companies are developing in order to obtain information about the social impact of their practices. In the past, companies communicated with their stakeholders about specific issues as the need arose. Today, stakeholder governance seeks to proactively cover the company’s
{"title":"A Test of Stakeholder Governance","authors":"Stavros Gadinis, Amelia Miazad","doi":"10.2139/ssrn.3869176","DOIUrl":"https://doi.org/10.2139/ssrn.3869176","url":null,"abstract":"Stakeholder capitalism dominates the public debate about the future of the corporation. Business leaders and policymakers are calling for companies to abandon their stern adherence to profit maximization and take into consideration a broader set of stakeholder interests, on issues ranging from workplace equity to to climate change. Critics worry that managers can easily manipulate such lofty rhetoric to promote their own agenda and weaken constraints on their conduct that are typically benchmarked exclusively against financial performance. We argue instead that companies turn to stakeholders in order to derive information about the implications of their choices over a wider array of social issues that are outside the regular scope of corporate monitoring systems. The arrival of COVID in early 2020 provides a unique setting that allows us to test in practice how companies understand and utilize stakeholder governance. Forced to adjust swiftly to a new reality, companies might choose to economize and redirect resources away from peripheral stakeholder programs, as critics predict. Alternatively, COVID could help underscore how closely companies depend on their stakeholders, such as their employees, their communities, and their governments, leading to greater efforts to address these broader needs. To explore how companies viewed stakeholders under mounting pressure brought about by COVID, we conducted interviews with CEOs, general counsel, and other top executives from large, well-known publicly traded companies with an established stakeholder governance presence. Our sample includes companies from various industries, including some that fared particularly well during COVID such as technology, and others whose businesses were hit hard, such as travel and hospitality. Our findings suggest that companies turned to stakeholders during the pandemic with increasing frequency and asked for input on issues that are central to their business. Companies relied on stakeholder communications with employees to negotiate the remote working environment and arrange for continuous operation and reopenings, and with suppliers under immense strain as global trade contracted. Through stakeholder governance, companies understood better the needs of consumers in financial difficulty and the concerns of local authorities about unnecessary population movements, springing into action to support them. But stakeholders were not always successful in persuading managers and directors to follow their suggestions, particularly when stakeholders were themselves divided or where managers faced other critical hardships concurrently. Stakeholder governance emerges from our interviews as a systematic framework that companies are developing in order to obtain information about the social impact of their practices. In the past, companies communicated with their stakeholders about specific issues as the need arose. Today, stakeholder governance seeks to proactively cover the company’s ","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"18 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-06-15","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"116691807","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
There has been a great deal of SPAC activity in the last year and a half, but there are still a lot of unknowns in the dynamics of a SPAC deal. In this paper, I explain Special Purpose Acquisition Companies (SPACs), their origins in the 1990s and evolution to current status, celebrity endorsements, and resultant SPAC bubble. A recent SPAC acquisition – ARBE Robotics’ acquisition by ITAC, a publicly-traded SPAC is used as an example of the valuation conundrum faced by SPAC sponsors. The findings summarized in this paper are arrived from analyzing publicly available data. I perform a valuation analysis on the deal above and try to reconcile the values used in the investor presentation to 2 commonly used valuation methodologies that highlight the lack of correlation of valuation to value. It is important to note that the majority of business combinations associated with SPACs have no requirement for independent valuation opinions. My findings indicate that this lack of requirement is going to lead to more failures and losses for investors in SPACs and therefore public investors in SPACs should refrain from investing in their IPOs. Public investors are advised to wait till after the business combination is announced despite the benefits associate with warrants in the IPO units. I analyze recent SEC guidance on warrants and how that will limit future SPAC deals. This paper argues that SPACs have recently lost investor interest as they have come out of the positive feedback cycle due to negative media coverage, SEC focus, expected regulation tightening, and weak returns in the past year.
{"title":"An Insight into SPACs and their Valuation Conundrum","authors":"R. Agarwal","doi":"10.2139/ssrn.3882261","DOIUrl":"https://doi.org/10.2139/ssrn.3882261","url":null,"abstract":"There has been a great deal of SPAC activity in the last year and a half, but there are still a lot of unknowns in the dynamics of a SPAC deal. In this paper, I explain Special Purpose Acquisition Companies (SPACs), their origins in the 1990s and evolution to current status, celebrity endorsements, and resultant SPAC bubble. A recent SPAC acquisition – ARBE Robotics’ acquisition by ITAC, a publicly-traded SPAC is used as an example of the valuation conundrum faced by SPAC sponsors. The findings summarized in this paper are arrived from analyzing publicly available data. I perform a valuation analysis on the deal above and try to reconcile the values used in the investor presentation to 2 commonly used valuation methodologies that highlight the lack of correlation of valuation to value. It is important to note that the majority of business combinations associated with SPACs have no requirement for independent valuation opinions. My findings indicate that this lack of requirement is going to lead to more failures and losses for investors in SPACs and therefore public investors in SPACs should refrain from investing in their IPOs. Public investors are advised to wait till after the business combination is announced despite the benefits associate with warrants in the IPO units. I analyze recent SEC guidance on warrants and how that will limit future SPAC deals. This paper argues that SPACs have recently lost investor interest as they have come out of the positive feedback cycle due to negative media coverage, SEC focus, expected regulation tightening, and weak returns in the past year.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"176 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-06-11","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"116396482","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
A system is implemented that simulates a bond portfolio over the long-term of liabilities. It pays all liabilities and extracts continuously a fixed percentage of remaining liabilities to stakeholders while maintaining a strategic asset allocation. This fixed percentage is proposed as return measure in an ALM-context with risk derived from its distribution. Tabled inputs completed with simple coherent inductive models for interest rate changes and spread changes allow to map return and risk as function of market probability in a deterministic white-box approach. Aim is to provide insight in the dependency of return potential and risk drivers on the bond allocation, on assumptions and on market conditions in order to improve allocations, understand risk, specify risk-appetite, facilitate capital management and budgeting. Examples are based on an actual €10billion insurer portfolio. Current market conditions favor short bond duration, reducing government bonds and mixing in some high yield bonds. Duration matching now decreases return potential and increases risk so that Solvency 2 regulation is counterproductive from a quantitative risk perspective. Bond portfolios are less risky in an ALM-context than in an assets-context due to the mitigation of loss by a balance of opposing forces when bonds are reinvested. Their downside is resilient to increasing correlation. This system is the kernel of a system for all assets but first focus is exclusively on bonds for their weight in current allocations and their pricing characteristics.
{"title":"Analysis of Bond Portfolios in an ALM Context","authors":"Eddy H. Verbiest","doi":"10.2139/ssrn.3855346","DOIUrl":"https://doi.org/10.2139/ssrn.3855346","url":null,"abstract":"A system is implemented that simulates a bond portfolio over the long-term of liabilities. It pays all liabilities and extracts continuously a fixed percentage of remaining liabilities to stakeholders while maintaining a strategic asset allocation. This fixed percentage is proposed as return measure in an ALM-context with risk derived from its distribution. Tabled inputs completed with simple coherent inductive models for interest rate changes and spread changes allow to map return and risk as function of market probability in a deterministic white-box approach. Aim is to provide insight in the dependency of return potential and risk drivers on the bond allocation, on assumptions and on market conditions in order to improve allocations, understand risk, specify risk-appetite, facilitate capital management and budgeting. Examples are based on an actual €10billion insurer portfolio. Current market conditions favor short bond duration, reducing government bonds and mixing in some high yield bonds. Duration matching now decreases return potential and increases risk so that Solvency 2 regulation is counterproductive from a quantitative risk perspective. Bond portfolios are less risky in an ALM-context than in an assets-context due to the mitigation of loss by a balance of opposing forces when bonds are reinvested. Their downside is resilient to increasing correlation. This system is the kernel of a system for all assets but first focus is exclusively on bonds for their weight in current allocations and their pricing characteristics.","PeriodicalId":375725,"journal":{"name":"SPGMI: Capital IQ Data (Topic)","volume":"1 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2021-05-24","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"131392246","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
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