Narrow Results

We combine methods for portfolio optimization in incomplete markets which are due to Karatzas et al. [6] with methods proposed by Nualart based on Malliavin Calculus to model insider trading within a stochastic volatility model. We compute the optimal portfolio within a certain set of insider strategies for a general stochastic volatility model but also apply the methods to explicit examples. We further discuss how the Heston model fits into this context.

We set up a model to study the voluntary disclosure of information by insiders of publicly traded companies. We consider a trading framework as in [14] with many assets and one insider per asset. There is one discretionary liquidity trader who can allocate his trades across the different assets and many noise traders who trade with equal intensity in all assets. Before trade begins, insiders can disclose information in order to attract the discretionary liquidity trades. We show that if the level of noise trading is above a certain threshold, then there is an equilibrium where all insiders do not disclose any information. Below this threshold, equilibria are such that some information is always revealed by insiders. We also find that the greater the number of assets, the smaller the intensity of noise trading must be in order to induce insiders to disclose some information, and we find that insiders reveal all their information when the intensity of noise trading approaches zero.

The development of the theory of the expansion of filtrations took place mostly three decades ago, in the 1980s. Researchers developed two types of expansions: Initial expansions, where one adds information to the σ algebra ℱ₀, and progressive expansions, where information is added dynamically to turn a positive random variable (such as a last exit time) into a stopping time. The goal was to preserve the semimartingale property in the enlarged filtration. In this paper, we propose a new type of expansion, that of expansion with a stochastic process. This has antecedents in the work of Jeulin, Kohatsu-Higa, and a few others, but the theoretical and systematic approach given here is new. We begin by showing one can enlarge a filtration with a point process rather easily, and that semimartingales remain semimartingales under the expansions, if done correctly. Since one can approximate most stochastic processes with marked point processes, we then prove convergence theorems of the sequence of point processes together with their corresponding enlarged filtrations. To do this, we rely on a theory of the convergence of filtrations. We next need to give conditions such that semimartingales remain semimartingales in the limit. This is delicate, and we obtain partial results, but they are sufficient for our needs; this involves a kind of continual initial expansion procedure. One drawback of this procedure is that we do not always obtain the semimartingale decompositions for the enlarged filtrations of the limiting case, except in a class of examples that are in a Brownian motion paradigm. Recently, there have been attempts to model mathematically insider trading via a theory of enlarged filtrations. There are many technical issues involved, and creating a model with the presence of arbitrage is a constant problem, a situation one wishes to avoid. We show how one can use this procedure to create models of insider trading that do not have arbitrage opportunities, but under which the risk neutral measure for the insider is different than is the risk neutral measure for the rest of the market.

The continuous-time version of Kyle [(1985) Continuous auctions and insider trading, Econometrica53 (6), 1315–1335.] developed by Back [(1992) Insider trading in continuous time, The Review of Financial Studies5 (3), 387–409.] is studied here. In Back’s model, there is asymmetric information in the market in the sense that there is an insider having information on the real value of the asset. We extend this model by assuming that the fundamental value evolves with time and that it is announced at a future random time. First, we consider the case when the release time of information is predictable to the insider and then when it is not. The goal of the paper is to study the structure of equilibrium, which is described by the optimal insider strategy and the competitive market prices given by the market makers. We provide necessary and sufficient conditions for the optimal insider strategy under general dynamics for the asset demands. Moreover, we study the behavior of the price pressure and the market efficiency. In particular, we find that when the random time is not predictable, there can be equilibrium without market efficiency. Furthermore, for the two cases of release time and for classes of pricing rules, we provide a characterization of the equilibrium.

We employ a sample of 3,177 events from Hong Kong industrial firms during the 1993–1999 period to examine insider trading activities around earnings and dividends announcements. By controlling for earnings management, special dividends, and other firm level financial indicators, we find that the presence of insider trading, its trading direction, and its trading intensity are related to the signals of these simultaneous earnings and dividends announcements. Various tests show that our findings are robust regardless of the proxies used for measuring insider trading activities, earnings, and dividend changes.

The purpose of this paper is to look at the duration of the four-month period before the window dressing of Power Quotient International Co., LTD. (PQI) annual report between 2004 and 2005 was disclosed. The vultures sold 6,373,000 shares of PQI's stock based on the illegally obtained insider information. The empirical results indicate that the vultures' selling did not make PQI's stock price go down during insider period, but PQI's stock price did appear to rise and significantly exceeded the non-insider period. However, the proportion of vultures' selling is negatively correlated with the changes in PQI's stock price. The effect of vultures' selling is indifferent from the effect of non-vultures' selling during insider period. Market liquidity is also affected unfavorably in the presence of vultures' trading. Additionally, the newspaper's reports on PQI's positive or negative news significantly influence the investment decision of investors in Taiwan, and significantly influence the PQI's price changes and market liquidity.

The main purpose of this paper is to examine the legal insider trading activities by directors of companies listed on the Hong Kong Exchange over the period 1993 to 1999. One characteristic of insider trading in Hong Kong is the high frequency of transactions and the large amounts of money involved. Inside purchases appear to signal and correct undervaluation and inside sales appear to signal and correct overvaluation. In contrast to research from Britain and the United States, insider sales are more informative than purchases. On average, insiders earn HK$91,297 per trade, while outsiders who mimic insiders' transactions earn minimal returns. Many firms suffer from infrequent trading and our results are consistent with directors engaging in inside transactions so as to help create a market for the shares. In additional tests, we find that the frequency of insider trading is a function of information asymmetry.

This paper investigates the impact of the tax regime on the predictive ability of UK executives' stock option exercises by categorizing all exercises by the value of the transaction. We use two measures, the net transaction value (which incorporates the cost to the executive of exercising the option, together with the income generated by the associated sale of stock at the time of exercise) and the value of the exercise (which is simply the cost of exercising the option). We show that, in contrast to the existing literature, executive stock option exercises do have predictive ability for future stock returns. This predictive ability relates to transactions that generate net revenue for the executive, a finding that is the reverse of the evidence relating to standard executive transactions, and consistent with a tax motive for executives' exercise behavior.

We study the effect of the grants of executive stock options (ESOs) and restricted stock on earnings management and insider trading during the vesting years of these grants. In our theoretical model, an informed manager compensated by stock options is mandated to issue an earnings report. Uninformed investors price the stock based on this report. The manager can manipulate the report to affect the stock price, but earnings management is costly to the manager. The optimal report balances the benefits from exercising stock options and the costs of earnings management. Earnings management and insider trading occur at the vesting date only if the options are in the money post manipulation, and are intensified by larger grants. The model identifies three major determinants of the extent of both earnings management and insider trading: The moneyness of the options at the vesting date, the size of the grants, and cumulative stock returns between the grant date and the vesting date. Our empirical results confirm that the moneyness of newly granted stock options and cumulative stock returns are strongly correlated with both earnings management and insider trading in vesting years. In contrast, the size of the grants is only weakly related to earnings management and insider trading in vesting years.

An asymmetric information model is introduced for the situation in which there is a small agent who is more susceptible to the flow of information in the market than the general market participant, and who tries to implement strategies based on the additional information. In this model market participants have access to a stream of noisy information concerning the future return of an asset, whereas the informed trader has access to a further information source which is obscured by an additional noise that may be correlated with the market noise. The informed trader uses the extraneous information source to seek statistical arbitrage opportunities, while at the same time accommodating the additional risk. The amount of information available to the general market participant concerning the asset return is measured by the mutual information of the asset price and the associated cash flow. The worth of the additional information source is then measured in terms of the difference of mutual information between the general market participant and the informed trader. This difference is shown to be nonnegative when the signal-to-noise ratio of the information flow is known in advance. Explicit trading strategies leading to statistical arbitrage opportunities, taking advantage of the additional information, are constructed, illustrating how excess information can be translated into profit.

Buyback programs are often used by firms for different purposes, including distributing excess cash to shareholders and signal that the stock price is underpriced. The first purpose of this chapter is to review studies of buyback programs and to highlight that fundamentals-based hypotheses are problematic in financial turmoil. We will show how buyback programs add value to shareholders while also identifying some situations in which they can destroy value. The second purpose is to present the pros and cons of buyback programs to shareholders, particularly during financial turmoil.

In this paper we review recent results on models for insider trading based on the theory of enlargement of filtrations. In particular, we concentrate on the case of strong type of insiders. That is, insiders that have additional information in the a.s. sense. We explain how to treat the utility maximization problem for insiders using the enlargement of filtration technique.

In a recent article [4], we have developed a market model where an insider trades using future information on the value of the underlying, through these trades it creates an effect on the drift of the underlying model. We find points of partial equilibria. That is, when the filtration is fixed the chosen portfolio is optimal, leads to finite utility of the insider and prices are semimartingales in their own filtration. In this article, we treat two explicit examples in detail. The first is an insider which has a medium term effect on the price. The second is an insider which has a long term effect on the price with memory effects. These examples were quoted in [4] but no details were given.