International Journal of Financial Engineering

We consider an equity forward contract on a stock which pays a dividend during the forward’s lifetime. Furthermore, the stock owner is assumed to have the right to opt for either cash or scrip dividend. In the latter case, the stock owner receives the dividend in the form of additional shares and the number of shares to be received depends on the average stock price in a certain averaging time period. The decision between scrip or cash must be made by the stock owner at some time point during the averaging period. Within a Black–Scholes-type setup we derive a closed formula for the fair strike price of such an equity forward contract in dependence on the stock volatility parameter. If the decision between scrip or cash can be delayed until close to the end of the averaging period, it is demonstrated how the optionality for the stock owner has a non-negligible value which lowers the forward equity strike.

When one solves the Black–Scholes partial differential equation, it is of great important that numerical scheme to be free of spurious oscillations and satisfy the positivity requirement. With positivity, we mean, the component non-negativity of the initial vector, is preserved in time for the exact solution. Numerically, such property for fully implicit scheme is not always satisfied by approximated solutions and they generate spurious oscillations in the presence of discontinuous payoff. In this paper, by using the nonstandard discretization strategy, we propose a new scheme that is free of spurious oscillations and satisfies the positivity requirement.

We introduce a new stochastic cost flow system for stock markets in which the probability distribution of the weighted average purchase price of a stock among all of its shareholders can be explicitly determined. The stochastic system is illustrated in three empirical applications. Through the empirical results, we demonstrate the impact of choosing cost flow assumptions on the reference purchase price estimates, we show the value of high-frequency financial data, and we advocate the need for the stochastic cost flow system when estimating the proportion of gains realized (PGR) and the proportion of losses realized (PLR) which are the most important measures for the disposition effect.

The objective of this paper is to study the arbitrage free pricing of variance and volatility swaps for Barndorff-Nielsen and Shephard type Lévy process driven financial markets. One of the major challenges in arbitrage free pricing of swap is to obtain an accurate pricing expression which can be used with good computational accuracy. In this paper, we obtain various approximate expressions for the pricing of volatility and variance swaps. We show that with the approximate formulas obtained from the Barndorff-Nielsen and Shephard model the error estimation in fitting the delivery price is much less than the existing models with comparable parameters. Pricing formulas proposed in this paper are simple to compute in real time and hence can be efficiently used in practical applications. Numerical results are provided in support of the accuracy of approximate formulas presented in this paper.

In this paper, we develop a new structural model that allows for a distinction between default and liquidation to be made. Default occurs when firm’s asset value process crosses a bankruptcy barrier. Here, we do not assume that default immediately triggers liquidation. Instead, the firm is allowed to continue operating even if it is in default. Liquidation is triggered as soon as the firm’s asset value has cumulatively spent a prespecified amount of time below the default barrier or has dropped below the liquidation barrier. The proposed model includes the Black–Cox model as a limiting case. A semi-analytical formula of the liquidation probability is derived for the case where firm’s asset value follows a geometric Brownian motion. Nonlinear volatility diffusion models are discussed as well.

Pricing a volatility swap is a highly nonlinear problem. Explicit solutions of the prices of volatility swaps are notoriously difficult to find. In this paper, we consider a saddlepoint approximation method for the valuation of a volatility swap under the Heston’s stochastic volatility model with regime switching. All the values of key parameters in our model are supposed to depend on the states of a continuous time observable Markov chain process. We present a closed-form exact cumulant generating functions (CGFs) of the continuous realized variance. Additionally, an approximated CGF is given. Then we approximate the volatility swaps by the saddlepoint approximation formula which derived from the Fourier inversion representation. The numerical results suggest that the alternative saddlepoint approximation method (ASAP) and the approximated ASAP method could both produce fairly accurate results for the given range of maturities.

Purpose: The objective of this study is to examine the relative contribution of firm-level, industry-level and country level variables to working capital at risk. Working capital at risk is treated as the value at risk for a portfolio of firm’s current assets. As far as short-term liquidity is concerned, working capital at risk, being the maximum amount that a firm may lose at a certain confidence interval, must be the most important part that a firm’s management must focus on.

Design/methodology/approach: This study empirically examines the possible associations between wide range of variables and working capital at risk. The sample firms include 143 non-financial firms listed in Egypt stock exchange. The data cover the years 2000–2014. The statistical tests include the fixed and random effects, testing for linearity versus nonlinearity. The least squares dummy variables and discriminant analysis are utilized. The working capital at risk is classified into three levels: low, medium and high.

Findings: The general findings of the study show that cash conversion cycle and the leverage are the most significant determinants of working capital at risk. Both determinants have significant influence on the level of volatility of working capital throughout the three categories of working capital at risk.

Originality/value: This study offers a new approach that deals with working capital as a portfolio, rather than single ratios, that firm’s management must decrease its volatility (value at risk), therefore, short-term liquidity can be improved significantly. This approach can be considered a financial engineering in terms of monitoring and managing short-term liquidity exposure.

Wavelet coherence of time series provide valuable information about dynamic correlation and its impact on time scales. Here we analyze the wavelet coherence of FTSE100 and S&P 500 with selected Asian markets of S&P/ASX 200 (Australia), S&P/ASX200 A-REIT (Australia), BIST (Turkey), HIS (Hong Kong), IDX (Indonesia), KLSE (Malaysia), KOSPI (Korea), N225 (Japan), RTS (Russia), Shenzhen (China), 0050.TW (Taiwan). Wavelet coherence results revealed interconnected relationships between stock markets and how these relationships vary in the time–frequency space. We conclude that developed economy stock markets have strong influences over Asian stock markets, although market dependencies vary by country and change over time. We also suggested that because co-movements shift over time, short term and middle term diversification could be more beneficial taking into account the degree of interrelations. From investors point of view, these relationships provides beneficial information, especially for portfolio diversification and risk elimination.