one sided performance measures under gram charlier distributions angel leon would like to acknowledge the financial support from the spanish ministry for science and innovation through the grant eco2014 58434 p and from the grant prometeoii 2013 015 manuel moreno gratefully acknowledges financial support by grants p12 sej 1733 and ppii 2014 030 p

success survive or escape aspirations and poverty traps i present a model of occupational choice where an agent decides whether to invest in a project that yields risky returns or a project that yields safe returns an agent s utility is affected by the presence of an aspiration level which will only be satisfied if their final income is above the poverty line i show that agents who are sufficiently above the poverty line will invest in the risky project and are able to aspire for success an agent however who is just above the poverty line may be so concerned about falling into poverty that they choose to invest in the safe project these individuals aspire only to survive alternatively if an agent is sufficiently below the poverty line then they will invest in the risky project even if expected returns are lower than the safe project these individuals have nothing left to lose and therefore aspire to escape two forms of poverty traps emerge from the resulting equilibria one above the poverty line and one below the poverty line finally i offer empirical support for the model based on individual level survey data across a large number of countries

hedging with options under variance uncertainty an illustration of pricing new crop soybeans the behavior of a commodity s price return variance over time is critical to both the theory and practice of commodity option valuation in this paper three models are used to forecast soybean price variance for the period during which a seasonal increase in variance has been found in previous studies a time series model outperforms the ordinary least squares and naive models the significance of the forecast error levels is then examined in terms of expected deviations above and below a price target for a put hedge the resulting trade off between risk and return is shown by strike price and variance expectation

the pricing of foreign currency options this study examines the assumption that the exchange rate follows a log normal probability distribution and it tests whether different stochastic specifications translate into important differences in implied option prices we investigate a class of processes which includes the log normal probability distribution as a limiting case none of the models performs particularly well the main problem appears to be that the volatility estimates from actual exchange rate data are significantly smaller than those implied by observed option prices la formation du prix des options sur des devises etrangeres cette etude examine le pos tulat que le taux de change suit une courbe de probabilite log normale et verifie si des specifications stochastiques differentes se traduisent en des diff6rences importantes dans les prix des options qui en decoulent les auteurs examinent une famille de processus dont le processus log normal est un cas limite aucun des modeles ne donne des resultats particu lierement bons le probleme principal semble etre que la volatilite des evaluations a partir des donnees sur les taux de change reel est plus faible et de maniere significative que celle des evaluations derivees des prix d options observes

the use of risk and return models for multiattribute decisions with decomposable utilities normatively oriented approaches to decision making under uncertainty occupy a major portion of the literature of decision analysis among the proposed approaches the von neumann morgenstern expected utility eu theory has been the most prominent model of rational choice despite some controversies that surround this model with respect to its descriptive ability as well as the plausibility of utility assessment in actual decision situations 6 10 although most applications of the eu model have been concerned with decisions involving monetary outcomes its scope is not limited to any particular class of conse quences the basic appeal of the model is attributable partly to its generality in this regard and more importantly to the apparent reasonableness of its preferentialaxioms in the context of decisions with monetary outcomes several alternatives to the eu model have been proposed including the mean variance and mean semivariance models that have found popularity in the economies and finance litera ture see 4 8 and 9 in contrast to the eu theory where a decision maker s preferences among uncertain prospects are assumed given preferences in these models are formulated in terms of two attributes that are presumed to character ize all available choices in the mean semivariance model for example uncer tain prospects are viewed entirely in terms of their means and below target semivariances a generalization of this model was examined by fishburn 2 who showed that the general mean risk model exhibits a certain degree of compatibility with the eu model more recently holthausen 5 showed that this compatibility is significantly enhanced when mean is replaced by a return measure de fined as a probability weighted function of above target deviations specifically holthausen proved that this model yields the same preferences as the eu model whenever the expected utility function has the form

the central banker as a risk manager estimating the federal reserve s preferences under greenspan we derive a natural generalization of the taylor rule that links changes in the interest rate to the balance of the risks implied by the dual objective of sustainable economic growth and price stability this monetary policy rule reconciles economic models of expected utility maximization with the risk management approach to central banking within this framework we formally test and reject the standard assumption of quadratic and symmetric preferences in inflation and output that underlies the derivation of the taylor rule our results suggest that fed policy decisions under greenspan were better described in terms of the fed weighing upside and downside risks to their objectives rather than simply responding to the conditional mean of inflation and of the output gap

resource allocation decisions under imperfect evaluation and organizational dynamics research and development r d projects face significant organizational challenges especially when the different units who run these projects compete among each other for resources in such cases information sharing among the different units is critical but it cannot be taken for granted instead individual units need to be incentivized to not only exert effort in evaluating their projects but also to truthfully reveal their findings the former requires an emphasis on individual performance whereas the latter relies on the existence of a common goal across the organization motivated by this commonly observed tension we address the following question how should a firm balance individual and shared incentives so that vital information is both acquired and equally importantly disseminated to the entire organization our model captures two key characteristics of r d experimentation information is imperfect and it is also costly our analysis yields several important implications for the design of such incentive schemes and the management of r d portfolios this paper was accepted by david hsu entrepreneurship and innovation

mining fool s gold we discuss the popular motley fool s foolish four portfolio as a case study in data mining we document the performance of the foolish four portfolio and use it to illustrate the mistaken inferences that can plague any investment research project we describe the warning signs of data mining and discuss the antidotes to it out of sample tests and the adjustment of returns for risk transaction costs and taxes finally we document that the foolish four and dow 10 trading rules have become popular enough to influence selected stock prices at the turn of the year

empirical tests of boundary conditions for toronto stock exchange options using option and stock transaction data for the period 1978 1979 three issues were investigated first the conformance of observed prices to various boundary conditions second the evolution of the market over time as the volume of trading and the number of listed options increased and third to test the efficiency of the market it was found that violations did occur using a trading rule based on the signal of observed violations the results suggest that even after transaction costs the market was inefficient over the sample period

quantifying the risk of deflation we propose formal and quantitative measures of the risk that future inflation will be excessively high or low relative to the range preferred by a private sector agent unlike alternative measures of risk our measures are designed to make explicit the dependence of risk measures on the private sector agent s preferences with respect to inflation we illustrate our methodology by estimating the risks of deflation for the united states germany and japan for horizons of up to 2 years the question of how large these risks are has been subject to considerable public debate we find that as of september 2002 when this question first arose there was no evidence of substantial deflation risks for the united states and for germany contrary to some conjectures at the time in contrast there was evidence of substantial deflation risks in japan

suckers are born but markets are made individual rationality arbitrage and market efficiency on an electronic futures market the iowa electronic markets are specially designed futures markets that appear to aggregate information efficiently to predict events such as election outcomes yet in theory perfect information aggregation is impossible further the markets are populated by a nonrepresentative sample of mistake prone and biased traders that is traders are prone to the behavioral anomalies predicted by behavioral finance how can this be reconciled with market efficiency here we take a first step by analyzing the behavior of two self selected types of traders dramatic differences in mistake rates across traders can help us answer the question market making traders who set prices are less mistake prone and appear to be more rational than price taking traders this highlights an important feature of markets marginal in this case market making not average traders set prices this can drive the efficiency of market prices in spite of large numbers of traders who display patently suboptimal behavior

data envelopment analysis of mutual funds based on second order stochastic dominance abstract although data envelopment analysis dea has been extensively used to assess the performance of mutual funds mf most of the approaches overestimate the risk associated to the endogenous benchmark portfolio this is because in the conventional dea technology the risk of the target portfolio is computed as a linear combination of the risk of the assessed mf this neglects the important effects of portfolio diversification other approaches based on mean variance or mean variance skewness are non linear we propose to combine dea with stochastic dominance criteria thus in this paper six distinct dea like linear programming lp models are proposed for computing relative efficiency scores consistent in the sense of necessity with second order stochastic dominance ssd the aim is that being ssd efficient the obtained target portfolio should be an optimal benchmark for any rational risk averse investor the proposed models are compared with several related approaches from the literature

risk value models restrictions and applications abstract sarin and weber european journal of operational research 70 1993 135 and others have argued for the expression of preferences under risk by the use of risk value models which have the intuitively appealing property that absence of certainty enters the decision maker s preference function only through a well defined risk argument the present paper proposes axioms which should be satisfied by any such model and explores the restrictions that the axioms place on the preference function implications for absolute and relative risk aversion are considered and the usefulness of the approach is demonstrated with applications to portfolio theory and the theory of the firm

third degree stochastic dominance here f x and g x are less than cumulative probability distributionis where x is a continuous or discrete random variable representing the outcome of a prospect the closed interval a b is the sample space of both prospects the integral shown in rule 2 and those shown throughout the paper are stieltjes integrals recall that the stieltjes integral fb f x dg x exists if one of the functions f and g is continuous and the other has finite variation in a b let d1 d2 and d3 be three sets of utility functions x d1 is the set containing all utility functions with 4 x and 1 x continuous and 41 x 0 for all xe a b d2 is the set with x 1 x 2 x continuous and q j x 0 02 x o for all xc a b d3 is the set with x 1 x 2 x 3 x continuous and 1 x 04 2 x o o for all xc a b here 1 x denotes the ith derivative of x hadar and russell proved that rule 1 is valid for all cd1 and rutle 2 is valid for all ed2 the authors point out that the set of probability distributions that can be ordered by means of second degree stochastic dominance is in general larger than that which can be ordered by means of first degree stochastic dominance note that in rule 2 they assume that x is not only an increasing function of x but also exhibits weak global risk aversion a condition guaranteed by requiring the second derivative of x to be nonpositive in this paper a condition which will be called third degree stochastic dominance is considered it is based on the following assumption about the form of the utility function x from a normative point of view one expects the risk premium associated with an uncertain prospect to become smaller the greater is the individual s wealth the plausibility and implications of this assumption h ave been explored by john pratt as well as others the risk premium of an uncertain prospect is that amount by which the certainty equivalent of the prospect differs from its expected value in mathematical terms given the prospect f x with expected value a the corresponding risk premium t is obtained by solving the following equation rb

asymmetric price risk an econometric analysis of aggregate sow farrowings 1973 86 aggregate sow farrowing response to price risk is estimated where price risk is defined as the difference between expected price at decision time and realized price at acquisition or selling time asymmetric unfavorable deviations and symmetric favorable and unfavorable deviations forms of price risk are estimated utilizing cash and futures prices statistical results suggest that an asymmetric form of risk analysis is preferred to a symmetric form for both cash and futures markets

the efficiency of the finnish market for right issues abstract this paper analyzes the efficiency of the finnish market for right issues the rights traded on the helsinki stock exchange hse are similar instruments to warrants with some special features attached to them the paper first derives appropriate arbitrage conditions for these rights which must be satisfied in informationally efficient markets and then examines these conditions using both ex post and ex ante test procedures the ex post tests which jointly examine market efficiency and synchroneity of the rights and stock market show a staggering amount of violations against the arbitrage bounds however the ex ante tests reveal that high transaction costs prevent normal investors from benefitting from these violations stockbrokers themselves however seem to be able to earn arbitrage profits in the rights market

variable risk preferences and adaptive aspirations abstract observations of human decision making indicate that risk preferences depend on the values of possible outcomes relative to levels of aspiration a model of such variable risk preference is specified it suggests that some risk averse behavior may result from a human tendency to focus on targets and from the adaptation of those targets to experience rather than from a fixed trait of risk aversion in addition the model shows how risk preferences varying around adaptive aspirations produce both a greater long run likelihood of survival and a higher average return for survivors than do fixed risk preferences

does the dow 10 investment strategy beat the dow statistically and economically a comparison of returns from 1946 to 1995 on a portfolio of the 10 dow jones industrial average stocks with the highest dividend yields the dow 10 with those from a portfolio of all 30 stocks in the djia the dow 30 shows that the dow 10 portfolio beats the dow 30 statistically that is the dow 10 has significantly higher average annual returns after adjusting for the dow 10 portfolio s higher risk extra transaction costs and unfavorable tax treatment however the dow 10 does not beat the dow 30 economically in some subperiods dow 10 performance is economically superior but the question is how to interpret this information in light of the potential for data mining and investor learning

separating risk and return in the capm a general utility based model abstract the author proposes a new utility function which captures trade offs between return and a large body of risk measures as defined by popular risk return models in the management science literature while exhibiting desirable properties for a financial investor this function forms the basis for an extension to the capital asset pricing model which links general asymmetric risk measures and risk value models with equilibrium asset pricing

transactions data tests of efficiency of the chicago board options exchange abstract this paper performs lower boundary condition tests based on rational pricing of call options and an implied standard deviation test based on the bid ask prices of options these efficiency tests attempt to closely approximate conditions in the option markets to avoid the pitfalls indicated by phillips and smith 1980 the tests use transactions data and account for the effects of stock and option bid ask prices simultaneity of stock and option prices depth of market execution lag and transaction costs the small and relatively infrequent profits due to market mispricing disappear in the lower boundary tests when transaction costs are taken into account frequent violations of the tighter boundary conditions in the implied standard deviation test are reported but the estimated profits cannot be unambiguously attributed to option market inefficiency

profit margin hedging some extension economists and others recommend profit margin hedging as a way to choose the timing of crop sales however the theory behind this strategy recommendation is not well developed this article determines the producer s utility function and price processes where profit margin hedging is optimal profit margin hedging is shown to be an optimal strategy under a highly restricted target utility function even in an efficient market profit margin hedging is profitable if prices are mean reverting copyright 2010 oxford university press

an index of loss aversion to a considerable extent risk aversion as it is commonly observed is caused by loss aversion several indexes of loss aversion have been proposed in the literature the one proposed in this paper leads to a clear decomposition of risk attitude into three distinct components basic utility probability weighting and loss aversion the index is independent of the unit of payment the main theorem shows how the indexes of different decision makers can be compared through observed choices

a risk return model with risk and return measured as deviations from a target return two attribute risk and return models are very popular in the economics and finance literature for analyzing decisions under uncertainty their popularity stems primarily from the intuitive appeal of the dichotomy into risk and return and from the ease with which the concepts can be diagrammed in two dimensions the most commonly used risk return model is the mean variance model in which risk is measured as the variance and return by the mean of the probability distribution over outcomes the mean variance model has a number of shortcomings which are widely known but of particular concern here are the facts that 1 mean variance dominance is neither necessary nor sufficient for second degree stochastic dominance 2 unless the form of the probability distribution is restricted mean variance is consistent with von neumann morgenstern utility theory only if the utility function is quadratic and 3 as peter fishburn has noted

a simple preference foundation of cumulative prospect theory with power utility most empirical studies of rank dependent utility and cumulative prospect theory have assumed power utility functions both for gains and for losses as it turns out a remarkably simple preference foundation is possible for such models tail independence a weakening of comonotonic independence which underlies all rank dependent models together with constant proportional risk aversion suffice in the presence of common assumptions weak ordering continuity and first stochastic dominance to imply these models thus sign dependence the different treatment of gains and losses and the separation of decision weights and utility are obtained free of charge

variance vs downside risk is there really that much difference abstract the popularity of downside risk among investors is growing and mean return downside risk portfolio selection models seem to oppress the familiar mean variance approach the reason for the success of the former models is that they separate return fluctuations into downside risk and upside potential this is especially relevant for asymmetrical return distributions for which mean variance models punish the upside potential in the same fashion as the downside risk the paper focuses on the differences and similarities between using variance or a downside risk measure both from a theoretical and an empirical point of view we first discuss the theoretical properties of different downside risk measures and the corresponding mean downside risk models against common beliefs we show that from the large family of downside risk measures only a few possess better theoretical properties within a return risk framework than the variance on the empirical side we analyze the differences between some us asset allocation portfolios based on variances and downside risk measures among other things we find that the downside risk approach tends to produce on average slightly higher bond allocations than the mean variance approach furthermore we take a closer look at estimation risk viz the effect of sampling error in expected returns and risk measures on portfolio composition on the basis of simulation analyses we find that there are marked differences in the degree of estimation accuracy which calls for further research

portfolio selection in multidimensional general and partial moment space abstract this paper develops a general approach for the single period portfolio optimization problem in a multidimensional general and partial moment space a shortage function is defined that looks for possible increases in odd moments and decreases in even moments a main result is that this shortage function ensures sufficient conditions for global optimality it also forms a natural basis for developing tests on the influence of additional moments furthermore a link is made with an approximation of an arbitrary order of a general indirect utility function this non parametric efficiency measurement framework permits to differentiate mainly between portfolio efficiency and allocative efficiency finally information can in principle be inferred about the revealed risk aversion prudence temperance and other higher order risk characteristics of investors

the impact of royalty contract revision in a multistage strategic r d alliance this paper investigates the impact of royalty revision on incentives and profits in a two stage research and development r d stage and marketing stage alliance with a marketer and an innovator the marketer offers royalty contracts to the innovator we find that the potential for royalty revision leads to more severe distortions in the optimal initial royalty contracts offered by the marketer we show that if the innovator plays a significant role in the marketing stage the marketer should offer a low royalty rate initially and then revise the royalty rate up later otherwise she should do the opposite we identify two major effects of royalty revision first royalty revision provides the marketer with a flexibility to dynamically adjust royalty rates across the two stages of the alliance to better align the innovator s incentives this incentive realigning effect improves the marketer s profit second royalty revision makes it harder for the marketer to obtain private information from the innovator because the innovator worries that the marketer will take advantage of the information to revise the initial contract to a more favorable one to herself later this information revealing effect hurts the marketer s profit we characterize in what kind of alliances marketers would benefit the most from royalty revision so that managers should clearly establish the expectation for royalty revision and in what kind of alliances markerters would not benefit from royalty revision so that managers should commit not to revise the initial royalty contract with royalty contracts that are contingent on the r d outcome of the r d stage we find that contingent contract structure could be either substitutable by fully capturing the incentive re aligning effect or complementary by weakening the information revealing effect to royalty revision depending on whether the innovator plays a significant role in the marketing stage managers may need to use a contingent contract if possible either to replace or with royalty revision accordingly to improve profits this paper was accepted by kamalini ramdas entrepreneurship and innovation