International Journal of Financial Engineering

The primary economic function of a bank is to redirect funds from savers to borrowers in an efficient manner, while increasing the value of the bank’s asset holdings in absolute terms. Within the regulatory framework of the Basel III accord, banks are required to maintain minimum liquidity to guard against withdrawals/liquidity risks. In this paper, we analyze a continuous-time mean-variance portfolio selection for a bank with stochastic withdrawal provisioning by relating the reserves as a proxy for the assets held by the bank. We then formulate an optimal investment portfolio selection for a banker by constructing a special Riccati equation as a continuous solution to the Hamilton–Jacobi–Bellman (HJB) equation under mean-variance paradigm. We obtain an explicit closed form solution for the optimal investment portfolio as well as the efficient frontier. The aforementioned modeling enables us to formulate a stochastic optimal control problem related to the minimization of the reserve, depository, and intrinsic risk that are associated with the reserve process.

The research aims to explore the risk adjusted performance of mutual funds in Pakistan. The research is based on inductive approach and secondary sources of data. The data has been collected for a total of 29 mutual funds from authentic sources such as the website of Mutual Fund Association of Pakistan and other online websites for Beta and Risk-Free Return. The tests are run on the data processed using Treynor Measure and Sharpe Ratio to reach at the conclusion if risk adjusted performance of measure mutual funds is up to the mark. It can be concluded that the risk adjusted performance of the mutual funds is lower than the absolute performance and the returns and risk also vary with respect to the time frame considered for the returns. First, the research utilizes the secondary sources of data only; the usage of primary sources of data can provide insights about internal operations of the mutual funds in Pakistan as they can provide reasons about fluctuations in the performance of mutual funds of same category. Second limitation is that the research has studied 29 income based funds only and the study of more fund categories could have expanded the scope of the research. Third limitation relates to the collected of quantitative data only as the backing by the qualitative data could have enriched the findings from the data collection. As the risk adjusted returns for majority of the income mutual funds are positive, the investors are recommended to invest in the mutual funds if they aim to get a desired risk adjusted return. The investors are recommended to consider wide range of mutual funds and should not limit their analysis to the income mutual funds based on their risk appetite and other factors to ensure that they get desired return within their risk appetite. The mutual fund companies are recommended to alter their portfolios in the cases when they are not able to generate positive risk adjusted returns. The mutual fund managers are recommended to perform periodical and in-depth analysis to reach at the desired portfolio based on the investment needs of the investors or the target population.

Based on the unique data from a popular P2P website in China, this paper investigates the borrowers’ herding behavior and its influencing factors, e.g., platform attribute and moderating events. We mainly find that: (i) there exists herding behavior at the platform level and that the loan amount, loan interest rate and loan duration are positively related to the magnitude of herding; (2) the borrowers’ herding behavior is increased by a platform’s market share and the number of participants; (3) regulatory events have negative effects on the herding behavior. Our findings have practical implications for P2P participants, platforms, and policymakers.

VIX futures and options are the most popular contracts traded in the Chicago Board Options Exchange. The bid-ask spreads of traded VIX derivatives remain to be wide, possibly due to the lack of reliable pricing models. In this paper, we consider pricing VIX derivatives under the consistent model approach, which considers joint modeling of the dynamics of the S&P index and its instantaneous variance. Under the affine jump-diffusion formulation with stochastic volatility, analytic integral formulas can be derived to price VIX futures and options. However, these integral formulas invariably involve Fourier inversion integrals with cumbersome hyper-geometric functions, thus posing various challenges in numerical evaluation. We propose a unified numerical approach based on the willow tree algorithms to price VIX derivatives under various common types of joint process of the S&P index and its instantaneous variance. Given the analytic form of the characteristic function of the instantaneous variance of the S&P index process in the Fourier domain, we apply the fast Fourier transform algorithm to obtain the transition density function numerically in the real domain. We then construct the willow tree that approximates the dynamics of the instantaneous variance process up to the fourth order moment. Our comprehensive numerical tests performed on the willow tree algorithms demonstrate high level of numerical accuracy, runtime efficiency and reliability for pricing VIX futures and both European and American options under the affine model and 3/2-model. We also examine the implied volatility smirks and the term structures of the implied skewness of VIX options.

In this paper, we derive a time consistent investment strategy for an investor who can invest not only in a bond and stock but in a derivative as well. In order to capture typical features shown by stocks, the stock and by extension the derivative depends on stochastic volatility. We assume that the investor is interested in maximizing a mean–variance utility function. Since the problem is time-inconsistent, we formulate the problem in game theoretic way and seek a subgame Nash equilibrium as the strategy. By solving an extended HJB equation system, we derive explicit time-consistent strategy and the corresponding efficient frontier. In order to show efficiency of the derivative strategy, we compare it with a strategy for the case of a market without a derivative. Our results show that efficient frontier for an investor with a derivative is higher than without derivative.

This research study compares the financially distressed and financially healthy companies, based on their audit committee attributes over the 2006–2010 period. While focusing on the manufacturing sector of Pakistan, the logit regression results reveal that audit committee composition and audit committee opinion have significant impact on the financial distress of the companies while audit committee size has insignificant impact on financial distress. The first of its kind, this study, benefits investors, financial analysts, accounting professionals, and practitioners. Their decision-making process will be enhanced regarding the evaluation of financially distressed companies and financially healthy ones. Despite its limitations, this study fills up the literature gap by focusing on the financially distressed firms that have not yet been bankrupted, thus giving them a chance to restructure their policies regarding the implementation of corporate governance practices in the context of Pakistan. This study has ignored financial sector of Pakistan because of different reporting styles of financial firms. The periods before and after the period of financial distress have also been ignored in the study.

This study of two-step system generalized methods of moments (2GMM) of dynamic panel data addresses some critical insights of competition and revenue diversification of BRICS banks. The key findings are: (i) There is a significant positive association of market competition in risk-taking. (ii) Revenue diversification of banks supports the portfolio investment theory in risk management, which means that diversified sources of income have apparent influence in risk. (iii) Size has found a heterogeneous effect on risk-taking in the competitive market. (iv) Although, country-wise results of each country are in line with BRICS results in most of the cases, however, few exceptions are also observed in the examination of competition, revenue diversification and size in credit risk and stability of banks. Finally, the study evidences the nonlinear relationship of competition, revenue diversification, and risk.

The bilateral gamma model for returns is naturally derived from the lognormal model. Maximizing entropy in a random time change delivers the symmetric variance gamma model. The asymmetric variance gamma follows on incorporating skewness. Differential speeds for the upward and downward motions lead to the bilateral gamma. A further generalizations results in the bilateral double gamma model when the speed parameter of the bilateral gamma model is itself taken to be gamma distributed on entropy maximization. A rich five to seven parameter specification of preferences renders possible the extraction of physical densities from option prices. The quality of such extraction is measured by examining the uniformity of the estimated distribution functions evaluated at realized forward returns. The economic value of risky returns is seen to embed three/five risk premia for the bilateral gamma/bilateral double gamma. For the bilateral gamma they are up and down side volatilities compensated in up and down side drifts, and the down side drift compensated in the up side drift. For the bilateral double gamma one adds in addition compensations for skewness. Results reveal a drop in the down side risk premium since the crisis with an increase in the recent period.

In this paper, we shall propose a Monte Carlo simulation technique applied to a G2++ model: even when the number of simulated paths is small, our technique allows to find a precise simulated deflator. In particular, we shall study the transition law of the discrete random variable :

Price Risk Management plays an important role in Commodity trading and corporate purchasing or Sales plan. Futures are used to hedge the price risk which is linear, while options are used for the nonlinear one. This paper proposes an evaluation method of dynamic hedging strategy for corporate hedging commodity price risk based on advanced Black–Scholes Model. By using the inverse replication method, we get the dynamic hedging strategy which uses futures to replicate options. Finally, we apply the dynamic hedging strategy for corporate purchases and sales to either lower purchase cost or maintain the sales price.