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Food security, food prices and climate variability
\"The agriculture system is under pressure to increase production every year as global population expands and more people move from a diet mostly made up of grains, to one with more meat, dairy and processed foods. This book uses a decade of primary research to examine how weather and climate, as measured by variations in the growing season using satellite remote sensing, has affected agricultural production, food prices and access to food in food-insecure regions of the world. The author reviews environmental, economics and multidisciplinary research to describe the connection between global environmental change, changing weather conditions and local staple food price variability. The context of the analysis is the humanitarian aid community, using the guidance of the USAID Famine Early Warning Systems Network and the United Nations World Food Program in their response to food security crises. These organizations have worked over the past three decades to provide baseline information on food production through satellite remote sensing data and agricultural yield models, as well as assessments of food access through a food price database. These datasets are used to describe the connection, and to demonstrate the importance of these metrics in overall outcomes in food-insecure communities\"-- Provided by publisher.
Book
Ex Ante Skewness and Expected Stock Returns
We use option prices to estimate ex ante higher moments of the underlying individual securities' risk-neutral returns distribution. We find that individual securities' risk-neutral volatility, skewness, and kurtosis are strongly related to future returns. Specifically, we find a negative (positive) relation between ex ante volatility (kurtosis) and subsequent returns in the cross-section, and more ex ante negatively (positively) skewed returns yield subsequent higher (lower) returns. We analyze the extent to which these returns relations represent compensation for risk and find evidence that, even after controlling for differences in co-moments, individual securities' skewness matters.
Journal Article
Demand-Based Option Pricing
We model demand-pressure effects on option prices. The model shows that demand pressure in one option contract increases its price by an amount proportional to the variance of the unhedgeable part of the option. Similarly, the demand pressure increases the price of any other option by an amount proportional to the covariance of the unhedgeable parts of the two options. Empirically, we identify aggregate positions of dealers and end-users using a unique dataset, and show that demand-pressure effects make a contribution to wellknown option-pricing puzzles. Indeed, time-series tests show that demand helps explain the overall expensiveness and skew patterns of index options, and cross-sectional tests show that demand impacts the expensiveness of single-stock options as well.
Journal Article
Stocks as Lotteries: The Implications of Probability Weighting for Security Prices
We study the asset pricing implications of Tversky and Kahneman's (1992) cumulative prospect theory, with a particular focus on its probability weighting component. Our main result, derived from a novel equilibrium with nonunique global optima, is that, in contrast to the prediction of a standard expected utility model, a security's own skewness can be priced: a positively skewed security can be \"overpriced\" and can earn a negative average excess return. We argue that our analysis offers a unifying way of thinking about a number of seemingly unrelated financial phenomena.
Journal Article
Noisy Prices and Inference Regarding Returns
Temporary deviations of trade prices from fundamental values impart bias to estimates of mean returns to individual securities, to differences in mean returns across portfolios, and to parameters estimated in return regressions. We consider a number of corrections, and show them to be effective under reasonable assumptions. In an application to the Center for Research in Security Prices monthly returns, the corrections indicate significant biases in uncorrected return premium estimates associated with an array of firm characteristics. The bias can be large in economic terms, for example, equal to 50% or more of the corrected estimate for firm size and share price.
Journal Article
Multiscale Stochastic Volatility for Equity, Interest Rate, and Credit Derivatives
Building upon the ideas introduced in their previous book, Derivatives in Financial Markets with Stochastic Volatility, the authors study the pricing and hedging of financial derivatives under stochastic volatility in equity, interest-rate, and credit markets. They present and analyze multiscale stochastic volatility models and asymptotic approximations. These can be used in equity markets, for instance, to link the prices of path-dependent exotic instruments to market implied volatilities. The methods are also used for interest rate and credit derivatives. Other applications considered include variance-reduction techniques, portfolio optimization, forward-looking estimation of CAPM 'beta', and the Heston model and generalizations of it. 'Off-the-shelf' formulas and calibration tools are provided to ease the transition for practitioners who adopt this new method. The attention to detail and explicit presentation make this also an excellent text for a graduate course in financial and applied mathematics.
eBook
INFORMATION AGGREGATION IN DYNAMIC MARKETS WITH STRATEGIC TRADERS
This paper studies information aggregation in dynamic markets with a finite number of partially informed strategic traders. It shows that, for a broad class of securities, information in such markets always gets aggregated. Trading takes place in a bounded time interval, and in every equilibrium, as time approaches the end of the interval, the market price of a \"separable\" security converges in probability to its expected value conditional on the traders' pooled information. If the security is \"non-separable,\" then there exists a common prior over the states of the world and an equilibrium such that information does not get aggregated. The class of separable securities includes, among others, Arrow—Debreu securities, whose value is 1 in one state of the world and 0 in all others, and \"additive\" securities, whose value can be interpreted as the sum of traders' signals.
Journal Article
Nonparametric Estimation of State-Price Densities Implicit in Financial Asset Prices
Implicit in the prices of traded financial assets are Arrow-Debreu prices or, with continuous states, the state-price density (SPD). We construct a nonparametric estimator for the SPD implicit in option prices and we derive its asymptotic sampling theory. This estimator provides an arbitrage-free method of pricing new, complex, or illiquid securities while capturing those features of the data that are most relevant from an asset-pricing perspective, for example, negative skewness and excess kurtosis for asset returns, and volatility \"smiles\" for option prices. We perform Monte Carlo experiments and extract the SPD from actual S&P 500 option prices.
Journal Article
Endogenous formation of security exchanges
We use club theory for the first time to provide a model of securities exchange (SX) formation. We think of a SX as a local public good that allows its traders to diversify risk by trading their securities with other SX members. In our two-stage equilibrium setting, traders evaluate SXs depending on their risk-sharing possibilities and, given these evaluations, choose the SX they want to join. Security prices can differ among SXs and traders may value SX memberships differently. We establish continuity properties in both stages and show that equilibrium exists for a generic set of economies.
Journal Article
Equilibrium in Continuous-Time Financial Markets: Endogenously Dynamically Complete Markets
We prove existence of equilibrium in a continuous-time securities market in which the securities are potentially dynamically complete: the number of securities is at least one more than the number of independent sources of uncertainty. We prove that dynamic completeness of the candidate equilibrium price process follows from mild exogenous assumptions on the economic primitives of the model. Our result is universal, rather than generic: dynamic completeness of the candidate equilibrium price process and existence of equilibrium follow from the way information is revealed in a Brownian filtration, and from a mild exogenous nondegeneracy condition on the terminal security dividends. The nondegeneracy condition, which requires that finding one point at which a determinant of a Jacobian matrix of dividends is nonzero, is very easy to check. We find that the equilibrium prices, consumptions, and trading strategies are well-behaved functions of the stochastic process describing the evolution of information. We prove that equilibria of discrete approximations converge to equilibria of the continuous-time economy.
Journal Article