learning to believe in sunspots a number of authors have shown that competitive economies may possess sunspot equilibria that is rational expectations equilibria in which purely extrinsic uncertainty affects equilibrium prices and allocations 2 such results demonstrate that it does not require a lack of faith in the rationality of market participants to believe that competitive markets may be subject to purely speculative fluctuations driven solely by expectations 3 the mere existence of sunspot equilibria as solutions to a system of marketclearing conditions however might not be judged sufficient to indicate that competitive markets with rational participants could ever be subject to speculative instability the sunspot equilibria represent states of affairs in which agents act differently in the case of different realizations of the sunspot variable and it is rational for each agent to do so but it might be thought unlikely that the beliefs of all the participants in the market could ever come to be coordinated so as to bring about an equilibrium of that kind it is rational to believe that sunspots convey information about future states of affairs once the economy is in a sunspot equilibrium but why would rational agents ever begin to believe in such a thing so as to create the conditions under which the belief is rational in order to address such a question one must go beyond the mere statement of the conditions for equilibrium and discussion of what states of affairs satisfy them one must specify an explicit dynamic process according to which the beliefs of agents adjust when out of equilibrium any exercise of this kind is necessarily unsatisfactory as there is no univocal meaning for the postulate of rational behavior outside of an equilibrium it may well be the case that

analytical upper bounds for american option prices american options require numerical methods namely lattice models to provide accurate price estimates the computations can become expensive when more than one state variable is involved analytical upper bounds can therefore provide a useful guideline for how high american values can reach in this paper we derive analytical closed form upper bounds for american option prices under stochastic interest rates stochastic volatility and jumps where american option prices are difficult to compute with accuracy in a stochastic volatility model heston 1993 and scott 1997 that has two random factors we demonstrate that the upper bound only takes a very small fraction of the time that the american option needs to compute

pricing multiasset equity options how relevant is the dependence function abstract in this paper we test how different choices for the dependence function can affect the prices of a set of multiasset equity options we conduct the analysis for various 5 dimensional baskets of uk shares and a wide range of payoffs for the multiasset options consistent with the instruments traded on the market we also test the relevance of the dependence specification over both volatile and quiet market scenarios interestingly we find that in most circumstances the choice of a dependence structure richer than the standard linear correlation does not seem to affect option prices substantially however the dependence function becomes more relevant in particularly volatile market conditions

upper and lower bounds of put and call option value stochastic dominance approach applying stochastic dominance rules with borrowing and lending at the risk free interest rate we derive upper and lower values for an option price for all unconstrained utility functions and alternatively for concave utility functions the derivation of these bounds is quite general and fits any kind of stock price distribution as long as it is characterized by a nonnegative beta transaction costs and taxes can be easily incorporated in the model presented here since investors are not required to revise their portfolios continuously the price that is paid for this generalization is that a range of values rather than a unique value is obtained in the last decade there has been an increasing interest in the options market by both academicians and practitioners the most well known valuation models are the black scholes 4 model the jump stochastic process model see cox and ross 6 the binomial model see cox ross and rubinstein 7 rendleman and bartler 19 and sharpe 22 and rubinstein s discrete model 21 recently perrakis and ryan 18 using rubinstein s approach have derived upper and lower bounds for option prices the relative pricing theory of contingent claims differs in the continuous time and discrete time models in a continuous time framework the instantaneous expected rate of return of the option and that of the underlying stock must follow a certain market equilibrium condition in this case the equilibrium condition is easily determined by a continuous hedging strategy in the discrete time case there is no hedging strategy to provide a simple relationship between the option and the stock price however for a given value distribution of the stock the value distribution of the option is uniquely determined by the option exercise price and this suggests some possible relationships between the stock and option values

indeterminacy of stationary equilibrium in stochastic overlapping generations models abstract in this paper we consider the local uniqueness properties of stationary rational expectations equilibria ree in a stochastic overlapping generations olg model it is known that in non stochastic olg models steady state equilibria are locally isolated although there may exist indeterminate non stationary perfect foresight equilibria we show by construction that in the stochastic model even stationary equilibrium may be indeterminate we also show that this result is robust in the sense that there exists a non empty open set of economies for which the result is true

option pricing and timberland s land use conversion option reply thomson s response to my recent article zinkhan 1991 in this journal proposes an alternative approach for valuing a timberland land use conversion option the most significant distinction between the zinkhan model zm and the thomson model tm is the selection of different analogies for two black scholes option pricing model parameters the underlying asset price and the exercise price thomson defines the adjusted price of the alternative land use s in his response to be the underlying asset price the sum of the land expectation value for continuous forest production lev and the physical costs associated with converting from timber to the alternative land use cc is treated as the exercise price x in contrast the gap sadj in zinkhan between the price of the alternative land use pal to after adjustment and the highest bid received for the given tract poffo after adjustment serves as the underlying asset price in the zm zinkhan assumes that the exercise price x is the sum of two values as of the time of expiration of the option t cc and the absolute value of the negative impact on lev resulting from a deviation if any from the optimal rotation age i there are several serious problems associated with the tm first the tm does not recognize the landowner s forfeiture of the land use conversion option from timber production to some alternative use if the tract is converted thus the opportunity cost associated with conversion is underestimated given thomson s framework for estimating the land use conversion option s value a solution to the problem would be indeterminable if the exercise price was simply modified through the addition of an estimate of the land use conversion option a solution would be unattainable since exercise price is an input in the process of calculating the same land use conversion option zinkhan partially avoids this problem by utilizing poffo rather than levo when estimating sadj where a bid is considered by the landowner only if poff levo poffo which is subtracted from palto after necessary adjustments in order to maintain the zm analogy for underlying asset price might at least partially reflect the value of the land use conversion option in contrast the tm s lev does not reflect this option value because of the possibility that the market clearing price of the cutover timberland tract at time 0 will

the impact of large portfolio insurers on asset prices we develop a simple model in which the presence of portfolio insurers in a market of risk averse traders leads to multiple equilibria for the pricing of financial assets and can cause an increase in volatility including insurance induced price drops we demonstrate however that centralized portfolio insurance firms may actually reduce not increase volatility even if the existence of these firms increases the total amount of funds under insurance a portfolio insurer typically sells equity as stock prices fall in order to limit the losses from holding equity in a declining market and buys equity as prices rise this can be accomplished directly by switching between stocks and cash or indirectly by taking a position in derivative securities whose payoffs are tied to stock market performance 1 the general effects of such dynamic hedging strategies have been studied by authors such as grossman 1988 brennan and schwartz 1989 and gennotte and leland 1990 gammill and marsh 1988 shiller 1989 jacklin kleidon and pfleiderer 1992 and others have studied the role of portfolio insurance in the crash of 1987 since these papers do not differentiate between an economy in which a group of atomistic investors follow their own individual insurance strategies and an economy in which large portfolio insurance firms act on behalf of investors who wish to insure however the specific price effects of large portfolio insurance firms are yet to be investigated this is the purpose of our paper section i develops a rudimentary asset pricing model with two types of traders atomistic portfolio insurers and atomistic ordinary traders this model is essentially a simplified version of gennotte and leland 1990 in which we focus on the stop loss basics of portfolio insurance like gennotte and leland we demonstrate that the existence of atomistic portfolio insurers increases the variance of possible equilibrium prices i e volatility and can lead to situations in which there are many potential equilibrium prices for a single set of fundamentals section ii extends the model by allowing some

on option pricing bounds the purpose of this article is to compare the perrakis and ryan bounds of option prices in a single period model with option bounds derived using linear programming it is shown that the upper bounds are identical but that the lower bounds are different a comparison of these bounds together with merton s bounds and the black scholes prices in a lognormal securities market is presented the black scholes 1 option pricing model is preference free its simplicity derives from the continuous trading assumption which enables a portfolio of stock and bonds to be constructed so as to replicate the payouts of the option in an incomplete market with only finite opportunities to revise portfolios no preference free option price can be constructed 3 6 for this case preferencedependent prices can be established rather than place restrictive assumptions on preferences perrakis and ryan pr 5 have recently derived upper and lower bounds for a single and multiple period call option price the development of these bounds is based on the single price law and arbitrage arguments and requires modest assumptions on preferences the bounds exist as equilibrium values given a consensus on stock price distributions in this article we shall develop bounds for option prices based on primitive prices in incomplete markets and compare these bounds to the single period bounds derived by perrakis and ryan towards this goal we first review the pricing approach for primitive securities and proceed to re express the pr bounds as derived from their arbitrage portfolios then using linear programming bounds on option prices are derived linear programming approaches for obtaining relationships among option prices have been investigated garman 2 for example established an algebra for evaluating hedge portfolios using this algebra a one period linear program can be established that provides a way to search for arbitrage opportunities over an infinite number of portfolio strategies one of the features of the algebra is that only one linear program need be solved to determine if riskless arbitrage strategies can be established by investigating the dual of the linear program garman obtained necessary and sufficient conditions for rational option pricing in a one period setting these bounds were shown to be consistent with the bounds determined by merton 4 unlike garman s approach the linear programming approach presented here places constraints on time preferences risk aversion and state probabilities under specific sets of assumptions linear programs are formulated where the objective function to be optimized is the call price minimization and maximi

investor valuation of the abandonment option abstract we investigate whether investors price the option to abandon a firm at its exit value theory prices this real option as an american put with both a stochastic strike price exit value and a stochastic value of the underlying security the value of cash flows the empirical implications are that firm value increases in exit value after controlling for expected going concern cash flows and that more generalizable assets produce more abandonment option value using discounted earnings forecasts to proxy for expected cash flows and prior literature to categorize asset generalizability we find strong support for the predictions of abandonment option theory

nonparametric conditional pricing of higher order multivariate contingent claims abstract this paper describes and applies a nonparametric model for pricing multivariate contingent claims multivariate contingent claims are contracts whose payoffs depend on the future prices of more than one underlying variable the pricing however of these kinds of contracts represents a challenge all known models are adaptations of earlier ones that have been introduced to price plain vanilla calls and puts they are imposing strong assumptions on the distributional properties of the underlying variables in contrast this study adopts a methodology that relaxes such restrictions following barone adesi g bourgoin f giannopoulos k 1998 don t look back risk 11 august 100 104 barone adesi g engle r mancini l 2004 garch options in incomplete markets mimeo university of applied sciences of southern switzerland long x 2004 semiparametric multivariate garch model mimeo university of california riverside multivariate pathways for a set of underlying variables are constructed before the option payoffs are computed this enables the covariances in addition to the means and variances to be modelled in a dynamic and nonparametric manner the model is particular suitable for options whose payoffs depend on variables that are characterised by high nonlinearities and extremes and on higher order multivariate options whose underlying variables are more unlikely to conform to a common theoretical distribution

bounds on contingent claims based on several assets abstract in 1987 lo derived an upper bound on the price of a european call option on a single asset lo s bound depends only on the mean and variance of the terminal asset price and is termed a semi parametric bound this paper derives similar semi parametric bounds on a european call on the maximum of any number of assets a distribution free bound for the price of this option is obtained the bound depends only on the means and covariance matrix of the returns on n underlying assets the bound is obtained by optimizing over the entries of a positive definite matrix a this can be accomplished by a technique known as semidefinite programming we demonstrate the methodology using two specific applications the first concerns the valuation of a european call option on the maximum of several assets this is known as an outperformance option and is of some practical interest the second application concerns the valuation of a discretely adjusted lookback option these lookback options are of interest in connection with certain equity annuity insurance products

approximate versus exact equilibria in dynamic economies this paper develops theoretical foundations for an error analysis of approximate equilibria in dynamic stochastic general equilibrium models with heterogeneous agents and incomplete financial markets while there are several algorithms that compute prices and allocations for which agents first order conditions are approximately satisfied approximate equilibria there are few results on h interpret the errors in these candidate solutions and how to relate the computed allocations and prices to exact equilibrium allocations and prices we give a simple example to illustrate that approximate equilibria might be very far from exact equilibria we then interpret approximate equilibria as equilibria for close by economies that is for economies with close by individual endowments and preferences

a general equilibrium model of portfolio insurance this article examines the effects of portfolio insurance on market and asset price dynamics in a general equilibrium continuous time model portfolio insurers are modeled as expected utility maximizing agents martingale methods are employed in solving the individual agents dynamic consumption portfolio problems comparisons are made between the optimal consumption processes optimally invested wealth and portfolio strategies of the portfolio insurers and normal agents at a general equilibrium level comparisons across economies reveal that the market volatility and risk premium are decreased and the asset and market price levels increased by the presence of portfolio insurance article published by oxford university press on behalf of the society for financial studies in its journal the review of financial studies

efficient selection of insured currency positions protective puts vs fiduciary calls we examine the empirical results from implementation of portfolio insurance strategies employing currency spot and futures options hypotheses are generated from ogden and tucker s 1988 generalizations concerning the relative values of american spot currency options and currency futures options we find that protective puts using futures options are generally dominated by both protective puts that use options on spot currencies and by fiduciary calls on futures contracts this suggests that the prices of puts on foreign currency futures contracts are too high relative to foreign currency futures calls and to puts on spot currencies

the american put option valued analytically an analytic solution to the american put problem is derived herein the hedge ratio and other derivatives of the solution are presented the formula derived implies an exact duplicating portfolio for the american put consisting of discount bonds and stock sold short the formula is extended to consider put options on stocks paying cash dividends a polynomial expression is developed for evaluating these formulae values and hedge ratios for puts on both dividend and nondividend paying stocks are calculated tabulated and compared with values derived by numerical integration and binomial approximation as with european options evaluating an analytic formula is more efficient than approximating the stock price process or the partial differential equation by binomial or finite difference methods finally applications of this american put solution are discussed

monte carlo methods for security pricing the monte carlo approach has proved to be a valuable and flexible computational tool in modern finance this paper discusses some of the recent applications of the monte carlo method to security pricing problems with emphasis on improvements in efficiency we first review some variance reduction methods that have proved useful in finance then we describe the use of deterministic low discrepancy sequences also known as quasi monte carlo methods for the valuation of complex derivative securities we summarize some recent applications of the monte carlo method to the estimation of partial derivatives or risk sensitivities and to the valuation of american options we conclude by mentioning other applications

market structure and spells of employment and unemployment evidence from the construction sector in egypt summary this paper investigates the links between market structure and spells of employment and unemployment in the construction sector in egypt using an augmented job search framework two key features of the model are the reservation frontier which allows for a trade off between wages and expected duration of employment and the dependency of unemployment durations on expected employment durations and expected wages these as well as conjectures concerning the influence of demand side forces obtained from the expressions for the transition rates out of employment and unemployment are examined using weibull log logistic and generalized gamma parameterizations of the hazard rate the parametric assumptions are exploited to resolve problems associated with selectivity and use of generated regressors

the default risk of swaps we characterize the exchange of financial claims from risky swaps these transfers are among three groups shareholders debtholders and the swap counterparty from this analysis we derive equilibrium swap rates and relate them to debt market spreads we then show that equilibrium swaps in perfect markets transfer wealth from shareholders to debtholders in a simplified case we obtain closed form solutions for the value of the default risk in the swap for interest rate swaps we obtain numerical solutions for the equilibrium swap rate including default risk we compare these with equilibrium debt market default risk spreads swaps have been one of the most explosive and important innovations in international capital markets in the last 10 years in its simplest form a swap consists of an agreement hetween two entities called counterparties to exchange in the future two streams of cash flows in a currency swap these streams of cash flows consist of a stream of interest and principal payments in one cvtrrency exchanged for a stream of interest and principal payments of the same maturity in another currency in an interest rate swap they consist of streams of interest payments of one type fixed or floating exchanged for streams of interest payments of the other type in the same currency the two types of swap are shown in appendix 1 the economic importance of swap transactions is the fact that they can he comhined with deht issues to change the nature of the liahility for the borrower the sum of a hond issue and a currency swap gives a net liability stream which is equivalent to transforming the bond liability into a different currency a floating rate note combined with an interest rate swap results in a liability equivalent to fixed rate debt two issues have dominated the academic literature on swaps the first concerns the reasons for their use arbitrage of imperfections in capital markets was the original cause of their appearance price and henderson 1984 turnbull 1987 shows that lowering borrowing costs by a synthetic transaction involving a swap is not possible in a complete integrated capital market subsequent authors wall and pringle 1988 arak estrella groodman and silver 1988 smith smithson and wakeman 1987 observe

endogenous strategic business cycles this paper examines an overlapping generations version of the shapley shubik market game we show existence of equilibria for the simple one commodity model and analyze the dynamics of the equilibrium trajectories generated in the model because of the non linearities generated by strategic interaction of agents in the model we find that complex and chaotic equilibrium dynamics are possible in this model for a much broader range of preferences than those for which grandmont econometrica53 no 5 1995 995 1045 found complicated dynamics in the perfectly competitive version of this model these results then provide an alternative to the usual technology based explanation for the historical fact that business cycles became an important economic phenomenon only with the onset of industrialization journal of economic literatureclassification numbers c72 c73 d51 l16

third order extensions of lo s semiparametric bound for european call options computing semiparametric bounds for option prices is a widely studied pricing technique in contrast to parametric pricing techniques such as monte carlo simulations semiparametric pricing techniques do not require strong assumptions about the underlying asset price distribution we extend classical results in this area specifically we derive closed form semiparametric bounds for the payoff of a european call option given up to third order moment i e mean variance and skewness information on the underlying asset price we analyze how these bounds tighten the corresponding bounds when only second order moment i e mean and variance information is provided we describe applications of these results in the context of option pricing as well as in other areas such as inventory management and actuarial science

multinomial approximating models for options with k state variables contingent claims whose values depend on multiple sources of uncertainty arise in many financial contracts and in the analysis of real projects unfortunately closed form solutions for these options are rare and numerical methods can be computationally expensive this article extends the literature on multinomial approximating models specifically new multinomial models are presented that include as special cases existing models the more general models are shown to be computationally more efficient

replicating options with positions in stock and cash in most situations of practical relevance the price behavior of a call option is very similar to a combined position involving the underlying stock and borrowing the call price and the stock price will change in the same direction the effect on the call price of a one dollar change in the stock price however will depend on the current price of the stock the number of shares of stock in the replicating portfolio must equal the slope of the call price curve at that price when the call is deep out of the money i e when the stock price is much lower than the striking price a one dollar change in the stock price has little effect on the call price when the stock price is equal to the striking price a one dollar change in the stock price produces roughly a half dollar change in the call price if the stock price rises until the call is deep in the money a one dollar move in the stock price results in nearly a one dollar move in the call price because the call price behaves this way we must revise

pricing american style securities using simulation abstract we develop a simulation algorithm for estimating the prices of american style securities i e securities with opportunities for early exercise our algorithm provides both point estimates and error bounds for the true security price it generates two estimates one biased high and one biased low both asymptotically unbiased and converging to the true price combining the two estimators yields a confidence interval for the true price the proposed algorithm is especially attractive compared with lattice and finite difference methods when there are multiple state variables and a small number of exercise opportunities preliminary computational evidence is given

options on the minimum or the maximum of two risky assets analysis and applications this paper provides analytical formulas for european put and call options on the minimum or the maximum of two risky assets the properties of these formulas are discussed in detail options on the minimum or the maximum of two risky assets are useful to price a wide variety of contingent claims of interest to financial economists applications discussed in this paper include the valuation of foreign currency debt option bonds compensation plans risk sharing contracts secured debt and growth opportunities involving mutually exclusive investments

large market games with demand uncertainty abstract we consider a market game with a continuum of consumers where the measure of each type is stochastic nature selects the set of active consumers who make bids and offers on l 1 spot market trading posts existence of type symmetric nash equilibrium is proven when facing price uncertainty best responses are unique and a nash equilibrium to the sell all game is typically not a nash equilibrium to the original game under plausible circumstances consumers strictly prefer to be on one side of the market

pricing multivariate contingent claims using estimated risk neutral density functions abstract many asset price series exhibit time varying volatility jumps and other features inconsistent with assumptions about the underlying price process made by standard multivariate contingent claims mvcc pricing models this article develops an interpolative technique for pricing mvccs flexible nls pricing that involves the estimation of a flexible multivariate risk neutral density function implied by existing asset prices as an application the flexible nls pricing technique is used to value several bivariate contingent claims dependent on foreign exchange rates in 1993 and 1994 the bivariate flexible risk neutral density function more accurately prices existing options than the bivariate log normal density implied by a multivariate geometric brownian motion in addition the bivariate contingent claims analyzed have substantially different prices using the two density functions suggesting flexible nls pricing may improve accuracy over standard methods

market uncertainty correlated and sunspot equilibria in imperfectly competitive economies first version received june 1988 final version accepted november 1990 eds an imperfectly competitive economy is very prone to market uncertainty including uncertainty about the liquidity or thickness of markets we show in particular that there exist stochastic equilibrium outcomes in nonstochastic market games if and only if the endowments are not pareto optimal we also provide a link between extrinsic uncertainty arising in games e g correlated equilibria and extrinsic uncertainty in market economies e g sunspot equilibria a correlated equilibria to the market game is either a sunspot equilibrium or a non sunspot equilibrium to the related securities games but the converse is not true in general

valuation of product mix flexibility using real options abstract flexibility in manufacturing operations is becoming increasingly more important to industrial firms due to e g increasing market demand volatility internationalisation of markets and competition and shorter product life cycles defining measuring and evaluating manufacturing flexibility have not been straightforward neither in theory nor in practice the use of real options has shown to be an accessible approach for the valuation of certain types of flexibility when using real options for capital budgeting purposes it is possible to take flexibility options into account in the valuation process in this paper we use real options to evaluate one specific type of manufacturing flexibility i e product mix flexibility we provide both theoretical and practical perspectives based on a real case the main interest of the company under study is to evaluate product mix flexibility with respect to capacity set ups level of automation and multi functionality of resources the case involves multiple products and demand uncertainty wherefore product demands are used as the underlying asset in the real options models thus the contribution of this paper concerns the combination of real case multiple products capacity constraints and set up costs the results of the analysis show that i the value of flexibility decreases when demand volatility increases ii flexible resources add substantial value as compared to dedicated resources and iii the flexibility value of marginal capacity decreases with increasing levels of capacity

monopolistic competition business cycles and the composition of aggregate demand abstract we develop a dynamic general equilibrium model with monopolistically competitive firms and endogenous markups and show the possibility of equilibria with persistent fluctuations driven by self fulfilling revisions of expectations for some parameter values such fluctuations are characterized by time series properties similar to those observed in u s postwar business cycles in contrast with the existing literature our results do not rely on the presence of increasing returns or nominal rigidities a key ingredient of the model is the link between markups and the composition of aggregate demand some econometric evidence on the latter is also reported journal of economic literature classification number d43 d58 e32

is school the best route to skills returns to vocational school and vocational skills in egypt this paper tests the assumption that formal education is the best route to job skills the returns to formal vocational secondary schooling are compared to the returns to acquiring skills outside the education system such as undertaking an apprenticeship for male wage workers in egypt a unique longitudinal dataset with information on schooling and skills allows for causal inference about returns by comparing siblings for recent cohorts the estimated returns to formal vocational secondary education are the same as attaining no formal education however the returns to skills obtained outside of formal education are substantial

employment contracts job search theory and labour turnover preliminary empirical results summary the empirical implications of a model in which a worker participates in a labour market in which a job offer consists of a wage hour pair are examined here hours are not freely adjustable and the wage rate is typically different from the marginal value of leisure a theoretical model is proposed some natural conjectures on effects of wage changes are shown not to hold and a preliminary empirical investigation based on denver income maintenance experiment data is undertaken the persistence of business cycles has led economists to consider explicitly potential sources of stickiness in wage and price adjustments particularly stickiness of nominal wages one explanation of slow adjustments of wages to shocks is that information arrives too rapidly with too much volatility or too much asymmetry for workers wages and hours to adjust so that the worker s wage is always equal to the value of his marginal product of labour and simultaneously to his marginal value of leisure time to avoid continuous adjustment workers and firms engage in implicit or explicit employment contracts azariadis 1975 modelled underemployment equilibria in a model with contracts baily 1977 studied a model in which certain fixed costs induce layoffs as firms respond to demand fluctuations more recent work by burdett and mortensen 1980 has considered the terms of equilibrium contracts in the labour market hart 1983 reviews the theory of optimal employment contracts emphasizing the role of asymmetric information fischer 1977a and implicitly phelps and taylor 1977 considered the effects of multiperiod contracts in dynamic macroeconomic models and found that certain policy neutrality results of the new classical macroeconomics could be invalidated under certain conditions it is worth mentioning at this point that keynes clearly recognized that the link between the real wage paid to workers and the value of their leisure time had to be broken before macropolicy of the keynesian type would be effective indeed keynesian macroeconomic problems arise because this link is broken keynes repeatedly refers to nominal wage bargains as providing the rigidity he wanted to model the importance of implicit or explicit employment agreements in economic theory has led to a small number of empirical studies which explicitly allow for divergence between the wage keynes 1936 ch 2 and 18 malinvaud 1977 provides a related discussion in some models contracts serve only to introduce a somewhat arbitrary rigidity barro 1977 notes that rational agents are unlikely to write contracts the provisions of which make all parties worse off see also the comment by fischer 1977b

job duration seniority and earnings an important stylized fact about labor markets is that workers with longer seniority with their current employer have higher earnings than other workers with the same total labor market experience this study shows that workers in longer jobs earn more throughout than workers in a series of shorter jobs and that the measured positive cross sectional return seniority is largely a statistical artifact due to the correlation of seniority with an omitted variable representing the quality of the worker the job or the worker employer match the implication is tha t earnings do not in fact rise very much with seniority copyright 1987 by american economic association

on endogenous competitive business cycles the belief that the long run equilibrium of a competitive monetary economy that does not experience any exogeneous shocks whether originating from the external environment or from policy should be modelled as a state that is stationary or perhaps growing at a constant rate seems to be deeply rooted in the mind of some economists

us income taxation of new financial products abstract this paper discusses the response of the us federal income tax to financial innovation income taxation in the us and elsewhere has traditionally relied on distinctions such as the difference between fixed and contingent returns that can be undermined by new financial products the principal tax law responses to innovative products have been 1 transactional analysis which aggregates or disaggregates new transactions to conform them to existing legal categories 2 taxation of changes in market value rather than realization events 3 taxation based on an assumed formula and 4 anti avoidance administrative approaches

semi parametric upper bounds for option prices and expected payoffs abstract upper bounds on the expected payoff of call and put options are derived these bounds depend only on the mean and variance of the terminal stock price and not on its entire distribution so they are termed semi parametric a corollary of this result is a set of upper bounds for option prices obtained by the risk neutral valuation approach of cox and ross as an example these bounds are shown to obtain across both lognormal diffusions and mixed diffusion jump processes for any given data set we present an illustrative example that suggests these bounds may be of considerable practical value

an ex post valuation of the quality option implicit in the treasury bond futures contract abstract this paper develops three empirical estimates of the value of the quality delivery option implicit in the treasury bond futures contract a an ex ante value as given by the excess of forward price of the cheapest to deliver bond over its conversion factor times the futures price b an ex post value equal to the payoffs to a strategy of buying and holding a short futures long forward position at the start and delivering the cheapest bond at the expiration of futures contract and c another ex post value equal to the sum of payoffs to a continuous rollover strategy involving a short futures long forward position in the cheapest to deliver bonds three months prior to delivery the average values of the three estimates are 464 329 and 2 075 respectively the differences among the three estimates appear to be largely due to nonsynchronous spot futures data

the quality delivery option in treasury bond futures contracts this paper uses three methods to estimate quality option values for cbot treasury bond futures contracts it presents evidence regarding 1 payoffs from exercising this option at delivery 2 estimates from a t bond futures pricing model that incorporates this option and 3 estimates obtained from an exchange option pricing formula the results indicate that this option is worth considerably less than reported by kane and marcus 1986a for example payoffs obtained by switching from the bond cheapest to deliver three months prior to delivery to the one cheapest at time of delivery average less than 0 30 percentage points of par

a comparative study of portfolio insurance abstract this paper undertakes a comparative study of portfolio insurance under a variety of modeling strategies specifically we focus on portfolio insurers who derive utility from horizon wealth with marginal utility tending smoothly to infinity at some pre specified floor we solve for the optimal consumption portfolio wealth of these portfolio insurers and compare with constrained portfolio insurers and normal agents general equilibrium conditions are contrasted under pure exchange and production type models while the market price level is unambiguously increased under pure exchange under production the effect on market level is state dependent in both models the market volatility and risk premium are decreased by portfolio insurance the paper also investigates the possible relationship between portfolio insurance type trading strategies and market volatility

wages separations and job tenure on the job specific training or matching a general stochastic model of optimal job separation behavior is developed in the paper the model nests both the job training and the job matching hypotheses of the wage tenure relationship as special cases the purpose of the paper is to compare the implications of the two hypotheses for job turnover that expected wealth maximizing separation strategies are qualitatively identical under the two hypotheses is the principal theoretical result although the empirical implications of the two hypotheses for observations on the distribution of completed job spell lengths are similar as a consequence they are not quite identical

option pricing bounds in discrete time upper and lower bounds are derived for call options traded at discrete intervals these bounds are independent of assumptions on the stock price distribution other than a restriction satisfied by the stock being non negative beta the development of the bounds relies on the single price law and arbitrage arguments both single period and multiperiod results are produced and put option bounds follow by extension the bounds exist as equilibrium values given a consensus on stock price distribution they are also valid for empirical studies being adjustable for dividends and commissions following the impetus of the black scholes pricing model the majority of option analyses have been in continuous time such approaches have relied on the formation of perfect riskless hedges involving the option its underlying security and a riskless asset since the hedge must be continuously revised and maintained while actual trading opportunities are discrete this crucial assumption limits the accuracy and applicability of the black scholes and related formulae in fact the black scholes formula can only be considered as a valid approximation to the discrete time solution merton 8 p 663 while the closeness of that approximation has not been ascertained in general 1 earlier discrete models such as boness 3 and samuelson 12 have been succeeded by those of brennan 5 cox et al 6 and rubinstein 11 in which distributional restrictions are imposed on share returns usually the discrete formula converges to the black scholes expression under appropriate limit conditions using the rubinstein 11 approach we derive upper and lower bounds for option prices with both a general price distribution and discrete trading opportunities the bounds are functions of the share and exercise prices the riskless rate of interest the distribution of the share price change per period and the number of periods of expiration of the option the lower bound is tighter than that of merton 7 derived from more general arbitrage considerations while being less exact than the results already mentioned for restricted distributions

bounds and prices of currency cross rate options abstract this paper derives the pricing bounds of a currency cross rate option using the option prices of two related dollar rates via a copula theory and presents the analytical properties of the bounds under the gaussian framework our option pricing bounds are useful because 1 they are general in the sense that they do not rely on the distribution assumptions of the state variables or on the selection of the copula function 2 they are portfolios of the dollar rate options and hence are potential hedging instruments for cross rate options and 3 they can be applied to generate bounds on deltas the empirical tests suggest that there are persistent and stable relationships between the market prices and the estimated bounds of the cross rate options and that our option pricing bounds obtained from the market prices of options on two dollar rates and the historical correlation of two dollar rates are highly informative for explaining the prices of the cross rate options moreover the empirical results are consistent with the predictions of the analytical properties under the gaussian framework and are robust in various aspects

kinship ties social networks and segmented labor markets evidence from the construction sector in egypt abstract this paper tests for rationing of entry into craft occupations in the construction labor market in egypt and investigates whether entry is rationed according to regional origin and access to kinship and other social networks i use a modified version of roy s model of occupational choice which allows for the existence of costs of entry into craft occupations data from a 1988 survey of construction workers are used to estimate the model and test for rationing the results confirm the existence of rationing according to a worker s regional background but are inconclusive with respect to kinship ties and social networks

education as an option to the student education provides many benefits in part education produces human capital by attending school and training on the job the student acquires marketable skills thereby sacrificing current labor income while augmenting future labor income among economists this concept is familiar beginning with the seminal work by mincer 1958 and becker 1964 models of the accumulation of human capital have been extended to the life cycle and more recently to uncertainty simultaneously several of these models have been tested empirically 2 to economists education also serves as a signal by completing a demanding educational program the student signals to prospective employers that he possesses greater innate productivity than other potential employees not completing similar programs this potentially greater productivity the employer then rewards with more favorable conditions of employment

option pricing in a multi asset complete market economy this paper extends the seminal cox ross rubinstein 1979 crr hereafter binomial model to multiple assets it differs from previous models in that it is derived under the complete market environment specified by duffie and huang 1985 and he 1990 the complete market assumption requires the number of states to grow linearly with the number of assets however the number of correlations grows at a faster rate causing the crr model to be indirectly extendable we solve such a problem by recognizing that the fast growing correlation number is matched by the number of the angles of the edges of a hypercube spanned by the risky assets as a result we derive a solution that allows the number of equations to equal the number of risky assets and the riskless bond the resulting tree structure hence provides the same intuition of pricing and hedging contingent claims as that provided by the crr model finally the proposed model is not only as easy to implement as the one dimensional crr model but also it is more memory efficient than the existing multi factor lattice models

numerical valuation of high dimensional multivariate european securities we consider the problem of pricing a contingent claim whose payoff depends on several sources of uncertainty using classical assumptions from the arbitrage pricing theory the theoretical price can be computed as the discounted expected value of future cash flows under the modified risk neutral information process although analytical solutions have been developed elsewhere for a few particular option pricing problems computing the arbitrage prices of securities under several sources of uncertainty is still an open problem in many instances in this paper we present efficient numerical techniques based upon monte carlo simulation for pricing european contingent claims depending on an arbitrary number of risk sources we introduce in particular the method of quadratic resampling qr a new powerful error reduction technique for monte carlo simulation quadratic resampling can be efficiently combined with classical variance reduction methods such as importance sampling our numerical experiments show th

true and spurious duration dependence the identifiability of the proportional hazard model lancaster and nickell 1980 have argued that in the proportional hazard model the effects of time dependence true duration dependence and unobserved sample heterogeneity spurious duration dependence cannot be distinguished we show that both effects can be distinguished if the model allows for observed explanatory variables in the hazard we also discuss the application of our result to practical situations

convergence of strategic behavior to price taking we address the following issue what can be said about the degree of competition in a set of markets with a large number of participants when no information on the distribution of individual characteristics is available our main result is that the proportion of individuals whose strategic behavior differs substantially from price taking converges to zero as the number of market participants becomes large regardless of the distribution of characteristics

a lattice approach for pricing of multivariate contingent claims abstract the lattice approach developed by boyle evnine and gibbs beg is hitherto one of the most appealing when it comes to pricing multivariate contingent claims the beg approach has however some problems two of the major ones being that the method can lead to negative jump probabilities and has a slow rate of convergence in this paper a lattice approach the nek approach is developed which avoids both of the aforementioned problems of the beg approach it is shown that the nek approach has a very fast rate of convergence the results are accurate enough for most needs with as few as ten time steps and the results are astonishingly accurate with twenty time steps moreover the nek approach is simple and easy to understand and also easy to implement the latter property follows from the fact that all jump probabilities are equal and that the formulas for the jump sizes are extremely simple

options on the maximum or the minimum of several assets using an intuitive approach that also provides new intuition concerning the black and scholes equation this paper extends the results of johnson and stulz to the pricing of options on the minimum or the maximum of several risky assets

production organisation and risk control when market instruments are available a standard result in the theory of production under price risk is that if forward cover is available production is determined in terms of the known quoted forward or futures price rather than expectations of future prices in practice however primary production often involves joint or substitutable products so that a natural hedge may be available in addition costs such as input prices or interest rates are highly variable and may be correlated with output prices supply risk adds to this variation this paper considers the demand for market based hedging instruments in relation to such natural hedges and to the possible use of storage for hedging purposes under normality of conditional price cost variation it is shown that for relatively arbitrary nonlinear production technologies and attitudes to risk producers can plan production and derive their demand for futures by decomposing the organisation into a number of activity centres involving planning marketing cost and treasury functions adding up the hedging demands from each centre and equating to the effective supply of each type of hedge natural and market yields a linear system that may be solved for the optimum quantities of each hedge contract

a synthetic option framework for asset allocation what if investors could buy a call option that would grant them the right to purchase at the end of a performance measurement period a full position in the better performing of either stocks or bonds the appropriate investment strategy in that case wotuld be to invest in a riskless asset that portion of total funds sufficient to achieve a desired mninimum return over the period and to use the remaining funds to purchase the multiple risky asset call options although such options are not available in the marketplace their return pattern can be replicated by a trading strategy utilizing stocks bonds and cash this involves taking positions in each risky asset and financing the positions by borrowing in the riskless asset the investor takes larger positions in the risky assets as the assets perform well along with a larger borrowing position and smaller positions in the risky assets as they perform poorly along with smaller borrowing positions historical simulations of the synthetic option asset allocation approach achieved good results in both bull and bear markets over the 1973 83 period the compound perfornmance over the most recent three five and 10 year holding periods ending in 1983 was not only first quartile but first decile for the 10 year period and close to first decile for the other periods

skewness persistence in common stock returns recent empirical studies have found ex post common stock returns to be consistently positively skewed the frequency of positive skewness in this study is found to be relatively stable over varying time periods from 1961 to 1980 however the skewness of individual stocks and portfolios of stocks does not persist across different time periods positively skewed equity portfolios in one period are not likely to be positively skewed in the next time period past positively skewed returns do not predict future positively skewed returns

portfolio insurance and prospect theory investors popularity and optimal design of capital protected financial products abstract portfolio insurance strategies are used on both the institutional and the retail side of the asset management industry while standard utility theory struggles to provide an explanation this study justifies the popularity of portfolio insurance strategies in a behavioral finance context we run monte carlo simulations as well as historical simulations for popular portfolio insurance strategies and benchmark strategies in order to evaluate the outcomes using cumulative prospect theory our simulation results indicate that most portfolio insurance strategies are the preferred investment strategy for a prospect theory investor moreover the analysis provides insights into how portfolio insurance products should be designed and structured to meet the preferences of prospect theory investors as accurately as possible

some recent developments in labor economics and their implications for macroeconomics this paper reviews three recent directions of research on labor markets and the macroeconomy models of sectoral shifts and unemployment efficiency wage theories and insider outsider models of wage and employment determination sectoral shifts models show how permanent intersectoral shifts in labor demand and the slow process of labor reallocation across sectors may play an important role in explaining aggregate fluctuations efficiency wage and insider outsider models have in common the property that in equilibrium firms may pay wages in excess of market clearing these models provide potential explanations for persistent involuntary unemployment and segmented labor markets copyright 1988 by ohio state university press

performance evaluation of portfolio insurance strategies using stochastic dominance criteria abstract this paper evaluates the performance of the stop loss synthetic put and constant proportion portfolio insurance techniques based on a block bootstrap simulation we consider not only traditional performance measures but also some recently developed measures that capture the non normality of the return distribution value at risk expected shortfall and the omega measure we compare them to the more comprehensive stochastic dominance criteria the impact of changing the rebalancing frequency and level of capital protection is examined we find that even though a buy and hold strategy generates higher average excess returns it does not stochastically dominate the portfolio insurance strategies nor vice versa our results indicate that a 100 floor value should be preferred to lower floor values and that daily rebalanced synthetic put and cppi strategies dominate their counterparts with less frequent rebalancing

an algorithm for computing values of options on the maximum or minimum of several assets an approximate method is developed for computing the values of european options on the maximum or the minimum of several assets the method is very fast and is accurate for parameter ranges that are often of the most interest the approach casts the problem in terms of order statistics and can be used to handle situations where the initial asset prices the asset variances and the covariances are all unequal numerical values are given to illustrate the accuracy of the method

numerical evaluation of multivariate contingent claims we develop a numerical approximation method for valuing multivariate contingent claims the approach is based on an n dimensional extension of the lattice binomial method closed form solutions for the jump probabilities and the jump amplitudes are obtained the accuracy of the method is illustrated in the case of european options when there are three underlying assets article published by oxford university press on behalf of the society for financial studies in its journal the review of financial studies

a lattice framework for option pricing with two state variables a procedure is developed for the valuation of options when there are two underlying state variables the approach involves an extension of the lattice binomial approach developed by cox ross and rubinstein to value options on a single asset details are given on how the jump probabilities and jump amplitudes may be obtained when there are two state variables this procedure can be used to price any contingent claim whose payoff is a piece wise linear function of two underlying state variables provided these two variables have a bivariate lognormal distribution the accuracy of the method is illustrated by valuing options on the maximum and minimum of two assets and comparing the results for cases in which an exact solution has been obtained for european options one advantage of the lattice approach is that it handles the early exercise feature of american options in addition it should be possible to use this approach to value a number of financial instruments that have been created in recent years

the effects of volatility misestimation on option replication portfolio insurance to insure a stock portfolio one could purchase a put option with a striking price equal to some desired minimum value for the portfolio alternatively one could replicate this stock plus put portfolio with a portfolio of stock and cash the initial allocations to stock and cash will depend upon the parameters of an option valuation formula and will change as those parameters change in particular the construction of such synthetic optionreplicating portfolio insurance hence its outcome will depend critically on correct estimation of the volatility of the portfolio being insured volatility misestimation will cause the price of the synthetic put to deviate from its expected price and will result in incorrect allocations between stock and cash as a result the outcome of a synthetic portfolio insurance strategy based on misestimated volatility will be unpredictable a manager who underestimates volatility will typically end up buying less insurance than is necessary to ensure a given return while a manager who overestimates volatility will buy more insurance than is necessary both outcomes can be costly in terms of missed floors and forgone gains simulations of portfolio insurance performance over the period of the october 1987 market crash indicate that most insured portfolios would have fallen short of their promised values in general however the lower the guaranteed floor of the insurance program hence the lower its insurance the worse its results

rational expectations in the overlapping generations model abstract this paper reports results on the character of the rational expectations equilibria of a stochastic overlapping generations model with heterogenous markets the model considered is a stationary overlapping generations model in which the endowments of young agents are subject to i i d random shocks the main result shown is that if there are l 1 commodities traded in every period then for most preferences the rational expectations equilibrium stochastic process of prices and allocations necessarily exhibits serial correlation this is in marked contrast to the one commodity model in which there always exists an equilibrium which is measure isomorphic to the endowment process

numerical valuation of high dimensional multivariate american securities we consider the problem of pricing an american contingent claim whose payoff depends on several sources of uncertainty several efficient numerical lattice based techniques exist for pricing american securities depending on one or few up to three risk sources however these methods cannot be used for high dimensional problems since their memory requirement is exponential in the number of risk sources we present an efficient numerical technique that combines monte carlo simulation with a particular partitioning method of the underlying assets space which we call stratified state aggregation ssa using this technique we can compute accurate approximations of prices of american securities with an arbitrary number of underlying assets our numerical experiments show that the method is practical for pricing american claims depending on up to 400 risk sources

generalized analytical upper bounds for american option prices this paper generalizes and tightens chen and yeh s 2002 analytical upper bounds for american options under stochastic interest rates stochastic volatility and jumps where american option prices are difficult to compute with accuracy we first generalize theorem 1 of chen and yeh 2002 and apply it to derive a tighter upper bound for american calls when the interest rate is greater than the dividend yield our upper bounds are not only tight but also converge to accurate american call option prices when the dividend yield or strike price is small or when volatility is large we then propose a general theorem that can be applied to derive upper bounds for american options whose payoffs depend on several risky assets as a demonstration we utilize our general theorem to derive upper bounds for american exchange options and american maximum options on two risky assets

on the relation between option and stock prices a convex optimization approach the idea of investigating the relation of option and stock prices based just on the no arbitrage assumption but without assuming any model for the underlying price dynamics has a long history in the financial economics literature we introduce convex and in particular semidefinite optimization methods duality and complexity theory to shed new light on this relation for the single stock problem given moments of the prices of the underlying assets we show that we can find best possible bounds on option prices with general payoff functions efficiently either algorithmically solving a semidefinite optimization problem or in closed form conversely given observable option prices we provide best possible bounds on moments of the prices of the underlying assets as well as on the prices of other options on the same asset by solving linear optimization problems for options that are affected by multiple stocks either directly the payoff of the option depends on multiple stocks or indirectly we have information on correlations between stock prices we find nonoptimal bounds using convex optimization methods however we show that it is np hard to find best possible bounds in multiple dimensions we extend our results to incorporate transactions costs

liquid markets and competition abstract a market is liquid if no individual s actions have a big effect on the prices of goods traded in that market perfectly competitive markets are therefore perfectly liquid it is well known that market liquidity can be achieved by increasing the number of traders so that individual trades are small compared to total trades we show that even when there are only few traders market liquidity can be achieved through large short sales in which net trades are small relative to gross trades in particular for a natural variant of the market game which permits unlimited short sales we show that there is always a nash equilibrium allocation arbitrarily close to a competitive equilibrium allocation of course not all ne are near competitive only the large short sales ne are nearly liquid and hence close to ce