scholarly journals The Term Structures of Expected Loss and Gain Uncertainty*

2020 ◽  
Vol 18 (3) ◽  
pp. 473-501
Author(s):  
Bruno Feunou ◽  
Ricardo Lopez Aliouchkin ◽  
Roméo Tédongap ◽  
Lai Xu
Keyword(s):  
Jump Diffusion ◽  
Reduced Form ◽  
Stochastic Discount Factor ◽  
Expected Loss ◽  
Pricing Models ◽  
Latent Factors ◽  
Jump Risk ◽  
Term Structures ◽  
Long Run ◽  
Negative Jump

Abstract We document that the term structures of risk-neutral expected loss and gain uncertainty on S&P 500 returns are upward sloping on average. These shapes mainly reflect the higher premium required by investors to hedge downside risk and the belief that potential gains will increase in the long run. The term structures exhibit substantial time-series variation with large negative slopes during crisis periods. Through the lens of a flexible Jump-Diffusion framework, we evaluate the ability of existing reduced-form option pricing models to replicate these term structures. We stress that three ingredients are particularly important: (i) the inclusion of jumps; (ii) disentangling the price of negative jump risk from its positive analog in the stochastic discount factor specification; and (iii) specifying three latent factors.

scholarly journals Jump-Diffusion Models for Valuing the Future: Discounting under Extreme Situations

Mathematics ◽  
2021 ◽  
Vol 9 (14) ◽  
pp. 1589
Author(s):  
Jaume Masoliver ◽  
Miquel Montero ◽  
Josep Perelló
Keyword(s):  
Diffusion Process ◽  
Discount Rate ◽  
Continuous Time ◽  
Environmental Planning ◽  
Dynamical Evolution ◽  
Jump Diffusion ◽  
Economic Evolution ◽  
Discount Function ◽  
Long Run ◽  
Future Discounting

We develop the process of discounting when underlying rates follow a jump-diffusion process, that is, when, in addition to diffusive behavior, rates suffer a series of finite discontinuities located at random Poissonian times. Jump amplitudes are also random and governed by an arbitrary density. Such a model may describe the economic evolution, specially when extreme situations occur (pandemics, global wars, etc.). When, between jumps, the dynamical evolution is governed by an Ornstein–Uhlenbeck diffusion process, we obtain exact and explicit expressions for the discount function and the long-run discount rate and show that the presence of discontinuities may drastically reduce the discount rate, a fact that has significant consequences for environmental planning. We also discuss as a specific example the case when rates are described by the continuous time random walk.

scholarly journals Framework for Assessing the Economic Efficiencies of Long-Run Network Pricing Models

2009 ◽  
Vol 24 (4) ◽  
pp. 1641-1648 ◽  
Author(s):  
Furong Li ◽  
David Tolley ◽  
Narayana Prasad Padhy ◽  
Ji Wang
Keyword(s):  
Pricing Models ◽  
Network Pricing ◽  
Long Run ◽  
Economic Efficiencies

How to estimate expected credit losses – ECL – for provisioning under IFRS 9

2021 ◽  
Vol ahead-of-print (ahead-of-print) ◽  
Author(s):  
Mariya Gubareva
Keyword(s):  
Risk Premium ◽  
Default Risk ◽  
Financial Regulation ◽  
Credit Default Swap ◽  
High Yield ◽  
Expected Loss ◽  
Content Type ◽  
Term Structures ◽  
Ifrs 9 ◽  
Investment Grade

PurposeThis paper provides an objective approach based on available market information capable of reducing subjectivity, inherently present in the process of expected loss provisioning under the IFRS 9.Design/methodology/approachThis paper develops the two-step methodology. Calibrating the Credit Default Swap (CDS)-implied default probabilities to the through-the-cycle default frequencies provides average weights of default component in the spread for each forward term. Then, the impairment provisions are calculated for a sample of investment grade and high yield obligors by distilling their pure default-risk term-structures from the respective term-structures of spreads. This research demonstrates how to estimate credit impairment allowances compliant with IFRS 9 framework.FindingsThis study finds that for both investment grade and high yield exposures, the weights of default component in the credit spreads always remain inferior to 33%. The research's outcomes contrast with several previous results stating that the default risk premium accounts at least for 40% of CDS spreads. The proposed methodology is applied to calculate IFRS 9 compliant provisions for a sample of investment grade and high yield obligors.Research limitations/implicationsMany issuers are not covered by individual Bloomberg valuation curves. However, the way to overcome this limitation is proposed.Practical implicationsThe proposed approach offers a clue for a better alignment of accounting practices, financial regulation and credit risk management, using expected loss metrics across diverse silos inside organizations. It encourages adopting the proposed methodology, illustrating its application to a set of bond exposures.Originality/valueNo previous research addresses impairment provisioning employing Bloomberg valuation curves. The study fills this gap.

scholarly journals The Macroeconomic Impact of Microeconomic Shocks: Beyond Hulten's Theorem

Econometrica ◽  
2019 ◽  
Vol 87 (4) ◽  
pp. 1155-1203 ◽  
Author(s):  
David Rezza Baqaee ◽  
Emmanuel Farhi
Keyword(s):  
Returns To Scale ◽  
The United States ◽  
Reduced Form ◽  
Average Output ◽  
Aggregate Output ◽  
First Order ◽  
Point Reduction ◽  
Sectoral Shocks ◽  
Long Run ◽  
Macroeconomic Impact

We provide a nonlinear characterization of the macroeconomic impact of microeconomic productivity shocks in terms of reduced‐form nonparametric elasticities for efficient economies. We also show how microeconomic parameters are mapped to these reduced‐form general equilibrium elasticities. In this sense, we extend the foundational theorem of Hulten (1978) beyond the first order to capture nonlinearities. Key features ignored by first‐order approximations that play a crucial role are: structural microeconomic elasticities of substitution, network linkages, structural microeconomic returns to scale, and the extent of factor reallocation. In a business‐cycle calibration with sectoral shocks, nonlinearities magnify negative shocks and attenuate positive shocks, resulting in an aggregate output distribution that is asymmetric (negative skewness), fat‐tailed (excess kurtosis), and has a negative mean, even when shocks are symmetric and thin‐tailed. Average output losses due to short‐run sectoral shocks are an order of magnitude larger than the welfare cost of business cycles calculated by Lucas (1987). Nonlinearities can also cause shocks to critical sectors to have disproportionate macroeconomic effects, almost tripling the estimated impact of the 1970s oil shocks on world aggregate output. Finally, in a long‐run growth context, nonlinearities, which underpin Baumol's cost disease via the increase over time in the sales shares of low‐growth bottleneck sectors, account for a 20 percentage point reduction in aggregate TFP growth over the period 1948–2014 in the United States.

scholarly journals A Western Reversal Since the Neolithic? The Long-Run Impact of Early Agriculture

2020 ◽  
Vol 80 (1) ◽  
pp. 100-135 ◽  
Author(s):  
Ola Olsson ◽  
Christopher Paik
Keyword(s):  
Reduced Form ◽  
Early Agriculture ◽  
Long Run ◽  
Neolithic Agriculture ◽  
European Colonization ◽  
Transition To Agriculture ◽  
Using Data ◽  
Reversal Of Fortune ◽  
Early Transition

In this article we document a reversal of fortune within the Western agricultural core, showing that regions which made early transition to Neolithic agriculture are now poorer than regions that made the transition later. The finding contrasts recent influential works emphasizing the beneficial role of early transition. Using data from a large number of carbon-dated Neolithic sites throughout the Western agricultural area, we determine approximate transition dates for about 60 countries, 280 medium-sized regions, and 1,400 small regions. Our empirical analysis shows that there is a robust negative, reduced-form relationship between years since transition to agriculture and contemporary levels of income both across and within countries. Our results further indicate that the reversal had started to emerge already before the era of European colonization.

scholarly journals The European Vulnerable Option Pricing with Jumps Based on a Mixed Model

2016 ◽  
Vol 2016 ◽  
pp. 1-9 ◽  
Author(s):  
Chao Wang ◽  
Jianmin He ◽  
Shouwei Li
Keyword(s):  
Option Pricing ◽  
Mixed Model ◽  
Structural Model ◽  
Jump Diffusion ◽  
Reduced Form ◽  
Martingale Method ◽  
Underlying Asset ◽  
Form Model ◽  
Reduced Form Model ◽  
Vulnerable Option

In this paper, we combine the reduced-form model with the structural model to discuss the European vulnerable option pricing. We define that the default occurs when the default process jumps or the corporate goes bankrupt. Assuming that the underlying asset follows the jump-diffusion process and the default follows the Vasicek model, we can have the expression of European vulnerable option. Then we use the measure transformation and martingale method to derive the explicit solution of it.

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