Handbook of Financial Econometricsand Statistics

Cheng-Few Lee • John C. LeeEditors

Handbook ofFinancial Econometricsand Statistics

With 281 Figures and 490 Tables

EditorsCheng-Few LeeDepartment of Finance and Economics, Rutgers Business SchoolRutgers, The State University of New JerseyPiscataway, NJ, USA

and

Graduate Institute of FinanceNational Chiao Tung UniversityHsinchu, Taiwan

John C. LeeCenter for PBBEF ResearchNorth Brunswick, NJ, USA

ISBN 978-1-4614-7749-5 ISBN 978-1-4614-7750-1 (eBook)ISBN 978-1-4614-7751-8 (print and electronic bundle)DOI 10.1007/978-1-4614-7750-1Springer New York Heidelberg Dordrecht London

Library of Congress Control Number: 2014940762

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Preface

Financial econometrics and statistics have become very important tools for empirical

research in both finance and accounting. Econometricmethods are important tools for

doing asset pricing, corporate finance, options and futures, and conducting financial

accounting research. Important econometric methods used in this research include:

single equation multiple regression, simultaneous regression, panel data analysis,

time series analysis, spectral analysis, non-parametric analysis, semi-parametric

analysis, GMM analysis, and other methods.

Portfolio theory and management research have used different statistical distri-

butions, such as normal distribution, stable distribution, and log normal distribu-

tion. Options and futures research have used binomial distribution, log normal

distribution, non-central chi square distribution, Poission distribution, and others.

Auditing research has used sampling survey techniques to determine the sampling

error and non-sampling error for auditing.

Based upon our years of experience working in the industry, teaching classes,

conducting research, writing textbooks, and editing journals on the subject of

financial econometrics and statistics, this handbook will review, discuss, and

integrate theoretical, methodological, and practical issues of financial econometrics

and statistics. There are 99 chapters in this handbook. Chapter 1 presents an

introduction of financial econometrics and statistics and shows how readers can

use this handbook. The following chapters, which have been contributed by

accredited authors, can be classified by the following 14 topics.

i. Financial Accounting (Chapters 2, 9, 10, 61, 97)

ii. Mutual Funds (Chapters 3, 24, 25, 68, 88)

iii. Microstructure (Chapters 4, 44, 96, 99)

iv. Corporate Finance (Chapters 5, 21, 30, 38, 42, 46, 60, 63, 75, 79, 95)

v. Asset Pricing (Chapters 6, 15, 22, 28, 34, 36, 39, 45, 47, 50, 81, 85, 87, 93)

vi. Options (Chapters 7, 32, 37, 55, 65, 84, 86, 90, 98)

vii. Portfolio Analysis (Chapters 8, 26, 35, 53, 67, 73, 80, 83)

viii. Risk Management (Chapters 11, 13, 16, 17, 23, 27, 41, 51, 54, 72, 91, 92)

ix. International Finance (Chapters 12, 40, 43, 59, 69)

x. Event Study (Chapters 14)

xi. Methodology (Chapters 18, 19, 20, 29, 31, 33, 49, 52, 56, 57, 58, 62, 74, 76,

77, 78, 82, 89)

v

xii. Banking Management (Chapters 64)

xiii. Pension Funds (Chapters 66)

xiv. Futures and Index Futures (Chapters 48, 70, 71, 94)

In addition to this classification, based upon the keywords of chapter 2-99, we

classify the information into a) finance and accounting topics and b) methodology

topics. This information can be found in chapter 1 of this handbook.

In the preparation of this handbook, first, we would like to thank the member of

advisory board and contributors of this handbook. In addition, we would like to

make note that we appreciate the extensive help from the Editor Mr. Brian Foster,

our research assistants Tzu Tai, Lianne Ng, and our secretary Ms. Miranda Mei-Lan

Luo. Finally, we would like to thank the financial support from the Wintek

Corporation and APEX International Financial Engineering Res. & Tech. Co. Ltd.

that allowed us to write the edition of this book.

There are undoubtedly some errors in the finished product, both typo-graphical

and conceptual. I would like to invite readers to send suggestions, comments,

criticisms, and corrections to the author Professor Cheng F. Lee at the Department

of Finance and Economics, Rutgers University at the email address lee@business.

rutgers.edu.

December 2012 Cheng-Few Lee

John C. Lee

vi Preface

Advisory Board

Ivan Brick Rutgers, The State University of New Jersey, USA

Stephen Brown New York University, USA

Charles Q. Cao Penn State University, USA

Chun-Yen Chang National Chiao Tung University, Taiwan

Wayne Ferson Boston College, USA

Lawrence R. Glosten Columbia University, USA

Martin J. Gruber New York University, USA

Hyley Huang Wintek Corporation, Taiwan

Richard E. Kihlstrom University of Pennsylvania, USA

E. H. Kim University of Michigan, USA

Robert McDonald Northwestern University, USA

Ehud I. Ronn The University of Texas at Austin, USA

vii

About the Editors

Cheng-Few Lee is a Distinguished Professor of Finance at Rutgers Business

School, Rutgers University and was chairperson of the Department of Finance

from 1988–1995. He has also served on the faculty of the University of Illinois

(IBE Professor of Finance) and the University of Georgia. He has maintained

academic and consulting ties in Taiwan, Hong Kong, China and the United States

for the past four decades. He has been a consultant to many prominent groups

including, the American Insurance Group, the World Bank, the United Nations,

The Marmon Group Inc., Wintek Corporation, and Polaris Financial Group.

Professor Lee founded the Review of Quantitative Finance and Accounting(RQFA) in 1990 and the Review of Pacific Basin Financial Markets and Policies(RPBFMP) in 1998, and serves as managing editor for both journals. He was also

a co-editor of the Financial Review (1985–1991) and the Quarterly Review ofEconomics and Finance (1987–1989). In the past 39 years, Dr. Lee has written

numerous textbooks ranging in subject matters from financial management to

corporate finance, security analysis and portfolio management to financial analysis,

planning and forecasting, and business statistics. In addition, he edited two popular

books, Encyclopedia of Finance (with Alice C. Lee) and Handbook of QuantitativeFinance and Risk Management (with Alice C. Lee and John Lee). Dr. Lee has also

published more than 200 articles in more than 20 different journals in finance,

accounting, economics, statistics, and management. Professor Lee was ranked the

most published finance professor worldwide during the period 1953–2008.

Professor Lee was the intellectual force behind the creation of the new Masters

of Quantitative Finance program at Rutgers University. This program began in

2001 and has been ranked as one of the top ten quantitative finance programs in

the United States. These top ten programs are located at Carnegie Mellon Univer-

sity, Columbia University, Cornell University, New York University, Princeton

University, Rutgers University, Stanford University, University of California at

Berkley, University of Chicago, and University of Michigan.

John C. Lee is a Microsoft Certified Professional in Microsoft Visual Basic and

Microsoft Excel VBA. He has a Bachelor and Masters degree in accounting from

the University of Illinois at Urbana-Champaign.

John has worked over 20 years in both the business and technical fields as an

accountant, auditor, systems analyst and as a business software developer. He is the

ix

author of the book on how to use MINITAB and Microsoft Excel to do statistical

analysis which is a companion text to Statistics of Business and FinancialEconomics, 2nd and 3rd, of which he is one of the co-authors. In addition, he has

also coauthored the textbooks Financial Analysis, Planning and Forecasting,2ed (with Cheng F. Lee and Alice C. Lee), and Security Analysis, PortfolioManagement, and Financial Derivatives (with Cheng F. Lee, Joseph Finnerty,

Alice C. Lee, and Donald Wort). John has been a Senior Technology Officer at

the Chase Manhattan Bank and Assistant Vice President at Merrill Lynch.

Currently, he is the Director of the Center for PBBEF Research.

x About the Editors

Contents

Volume 1

1 Introduction to Financial Econometrics and Statistics . . . . . . . . . 1

Cheng-Few Lee and John C. Lee

2 Experience, Information Asymmetry, and RationalForecast Bias . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63

April Knill, Kristina L. Minnick, and Ali Nejadmalayeri

3 An Appraisal of Modeling Dimensions for PerformanceAppraisal of Global Mutual Funds . . . . . . . . . . . . . . . . . . . . . . . . 101

G. V. Satya Sekhar

4 Simulation as a Research Tool for Market Architects . . . . . . . . . . 121

Robert A. Schwartz and Bruce W. Weber

5 Motivations for Issuing Putable Debt: An EmpiricalAnalysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 149

Ivan E. Brick, Oded Palmon, and Dilip K. Patro

6 Multi-Risk Premia Model of US Bank Returns: An Integrationof CAPM and APT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 187

Suresh Srivastava and Ken Hung

7 Nonparametric Bounds for European Option Prices . . . . . . . . . . 207

Hsuan-Chu Lin, Ren-Raw Chen, and Oded Palmon

8 Can Time-Varying Copulas Improve the Mean-VariancePortfolio? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 233

Chin-Wen Huang, Chun-Pin Hsu, and Wan-Jiun Paul Chiou

9 Determinations of Corporate Earnings Forecast Accuracy:Taiwan Market Experience . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 253

Ken Hung and Kuo-Hao Lee

10 Market-Based Accounting Research (MBAR) Models: A Test ofARIMAX Modeling . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 279

Anastasia Maggina

xi

11 An Assessment of Copula Functions Approach in Conjunctionwith Factor Model in Portfolio Credit Risk Management . . . . . . . 299

Lie-Jane Kao, Po-Cheng Wu, and Cheng-Few Lee

12 Assessing Importance of Time-Series Versus Cross-SectionalChanges in Panel Data: A Study of International Variations inEx-Ante Equity Premia and Financial Architecture . . . . . . . . . . . 317

Raj Aggarwal and John W. Goodell

13 Does Banking Capital Reduce Risk? An Application ofStochastic Frontier Analysis and GMM Approach . . . . . . . . . . . . 349

Wan-Jiun Paul Chiou and Robert L. Porter

14 Evaluating Long-Horizon Event Study Methodology . . . . . . . . . . 383

James S. Ang and Shaojun Zhang

15 The Effect of Unexpected Volatility Shocks on IntertemporalRisk-Return Relation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 413

Kiseok Nam, Joshua Krausz, and Augustine C. Arize

16 Combinatorial Methods for Constructing Credit RiskRatings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 439

Alexander Kogan and Miguel A. Lejeune

17 Dynamic Interactions Between Institutional Investors andthe Taiwan Stock Returns: One-Regime and ThresholdVAR Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 485

Bwo-Nung Huang, Ken Hung, Chien-Hui Lee, and Chin W. Yang

18 Methods of Denoising Financial Data . . . . . . . . . . . . . . . . . . . . . . 519

Thomas Meinl and Edward W. Sun

19 Analysis of Financial Time Series Using Wavelet Methods . . . . . . 539

Philippe Masset

20 Composite Goodness-of-Fit Tests for Left-Truncated LossSamples . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 575

Anna Chernobai, Svetlozar T. Rachev, and Frank J. Fabozzi

21 Effect of Merger on the Credit Rating and Performance ofTaiwan Security Firms . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 597

Suresh Srivastava and Ken Hung

22 On-/Off-the-Run Yield Spread Puzzle: Evidence from ChineseTreasury Markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 617

Rong Chen, Hai Lin, and Qianni Yuan

23 Factor Copula for Defaultable Basket Credit Derivatives . . . . . . . 639

Po-Cheng Wu, Lie-Jane Kao, and Cheng-Few Lee

xii Contents

24 Panel Data Analysis and Bootstrapping: Application to ChinaMutual Funds . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 657

Win Lin Chou, Shou Zhong Ng, and Yating Yang

25 Market Segmentation and Pricing of Closed-EndCountry Funds: An Empirical Analysis . . . . . . . . . . . . . . . . . . . . . 669

Dilip K. Patro

Volume 2

26 A Comparison of Portfolios Using Different RiskMeasurements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 707

Jing Rung Yu, Yu Chuan Hsu, and Si Rou Lim

27 Using Alternative Models and a Combining Technique in CreditRating Forecasting: An Empirical Study . . . . . . . . . . . . . . . . . . . . 729

Cheng-Few Lee, Kehluh Wang, Yating Yang, and

Chan-Chien Lien

28 Can We Use the CAPM as an Investment Strategy?:An Intuitive CAPM and Efficiency Test . . . . . . . . . . . . . . . . . . . . 751

Fernando Gomez-Bezares, Luis Ferruz, and Maria Vargas

29 Group Decision-Making Tools for Managerial Accounting andFinance Applications . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 791

Wikil Kwak, Yong Shi, Cheng-Few Lee, and Heeseok Lee

30 Statistics Methods Applied in Employee Stock Options . . . . . . . . 841

Li-jiun Chen and Cheng-der Fuh

31 Structural Change and Monitoring Tests . . . . . . . . . . . . . . . . . . . 873

Cindy Shin-Huei Wang and Yi Meng Xie

32 Consequences for Option Pricing of a Long Memoryin Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 903

Stephen J. Taylor

33 Seasonal Aspects of Australian Electricity Market . . . . . . . . . . . . 935

Vikash Ramiah, Stuart Thomas, Richard Heaney, and

Heather Mitchell

34 Pricing Commercial Timberland Returns in theUnited States . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 957

Bin Mei and Michael L. Clutter

35 Optimal Orthogonal Portfolios with ConditioningInformation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 977

Wayne E. Ferson and Andrew F. Siegel

Contents xiii

36 Multifactor, Multi-indicator Approach to Asset Pricing:Method and Empirical Evidence . . . . . . . . . . . . . . . . . . . . . . . . . . 1003

Cheng-Few Lee, K. C. John Wei, and Hong-Yi Chen

37 Binomial OPM, Black–Scholes OPM, and Their Relationship:Decision Tree and Microsoft Excel Approach . . . . . . . . . . . . . . . . 1025

John C. Lee

38 Dividend Payments and Share Repurchases of US Firms:An Econometric Approach . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1061

Alok Bhargava

39 Term Structure Modeling and Forecasting Using theNelson-Siegel Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1093

Jian Hua

40 The Intertemporal Relation Between Expected Return andRisk on Currency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1105

Turan G. Bali and Kamil Yilmaz

41 Quantile Regression and Value at Risk . . . . . . . . . . . . . . . . . . . . . 1143

Zhijie Xiao, Hongtao Guo, and Miranda S. Lam

42 Earnings Quality and Board Structure: Evidence fromSouth East Asia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1169

Kin-Wai Lee

43 Rationality and Heterogeneity of Survey Forecasts of theYen-Dollar Exchange Rate: A Reexamination . . . . . . . . . . . . . . . . 1195

Richard Cohen, Carl S. Bonham, and Shigeyuki Abe

44 Stochastic Volatility Structures and Intraday Asset PriceDynamics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1249

Gerard L. Gannon

45 Optimal Asset Allocation Under VaR Criterion: Taiwan StockMarket . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1277

Ken Hung and Suresh Srivastava

46 Alternative Methods for Estimating Firm’s Growth Rate . . . . . . 1293

Ivan E. Brick, Hong-Yi Chen, and Cheng-Few Lee

47 Econometric Measures of Liquidity . . . . . . . . . . . . . . . . . . . . . . . . 1311

Jieun Lee

48 A Quasi-Maximum Likelihood Estimation Strategy forValue-at-Risk Forecasting: Application to Equity IndexFutures Markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1325

Oscar Carchano, Young Shin (Aaron) Kim, Edward W. Sun,

Svetlozar T. Rachev, and Frank J. Fabozzi

xiv Contents

49 Computer Technology for Financial Service . . . . . . . . . . . . . . . . . 1341

Fang-Pang Lin, Cheng-Few Lee, and Huimin Chung

50 Long-Run Stock Return and the Statistical Inference . . . . . . . . . . 1381

Yanzhi Wang

Volume 3

51 Value-at-Risk Estimation via a Semi-parametric Approach:Evidence from the Stock Markets . . . . . . . . . . . . . . . . . . . . . . . . . 1399

Cheng-Few Lee and Jung-Bin Su

52 Modeling Multiple Asset Returns by a Time-Varying tCopula Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1431

Long Kang

53 Internet Bubble Examination with Mean-Variance Ratio . . . . . . . 1451

Zhidong D. Bai, Yongchang C. Hui, and Wing-Keung Wong

54 Quantile Regression in Risk Calibration . . . . . . . . . . . . . . . . . . . . 1467

Shih-Kang Chao, Wolfgang Karl Hardle, and Weining Wang

55 Strike Prices of Options for Overconfident Executives . . . . . . . . . 1491

Oded Palmon and Itzhak Venezia

56 Density and Conditional Distribution-Based SpecificationAnalysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1509

Diep Duong and Norman R. Swanson

57 Assessing the Performance of Estimators Dealing withMeasurement Errors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1563

Heitor Almeida, Murillo Campello, and Antonio F. Galvao

58 Realized Distributions of Dynamic Conditional Correlationand Volatility Thresholds in the Crude Oil, Gold, andDollar/Pound Currency Markets . . . . . . . . . . . . . . . . . . . . . . . . . . 1619

Tung-Li Shih, Hai-Chin Yu, Der-Tzon Hsieh, and Chia-Ju Lee

59 Pre-IT Policy, Post-IT Policy, and the Real Sphere in Turkey . . . 1647

Ahmed Hachicha and Cheng-Few Lee

60 Determination of Capital Structure: A LISREL ModelApproach . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1669

Cheng-Few Lee and Tzu Tai

61 Evidence on Earning Management by Integrated Oil and GasCompanies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1685

Raafat R. Roubi, Hemantha Herath, and John S. Jahera Jr.

Contents xv

62 A Comparative Study of Two Models SV with MCMCAlgorithm . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1697

Ahmed Hachicha, Fatma Hachicha, and Afif Masmoudi

63 Internal Control Material Weakness, Analysts Accuracy andBias, and Brokerage Reputation . . . . . . . . . . . . . . . . . . . . . . . . . . . 1719

Li Xu and Alex P. Tang

64 What Increases Banks Vulnerability to Financial Crisis:Short-Term Financing or Illiquid Assets? . . . . . . . . . . . . . . . . . . . 1753

Gang Nathan Dong and Yuna Heo

65 Accurate Formulas for Evaluating Barrier Options withDividends Payout and the Application in CreditRisk Valuation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1771

Tian-Shyr Dai and Chun-Yuan Chiu

66 Pension Funds: Financial Econometrics on the HerdingPhenomenon in Spain and the United Kingdom . . . . . . . . . . . . . . 1801

Mercedes Alda Garcıa and Luis Ferruz

67 Estimating the Correlation of Asset Returns: A QuantileDependence Perspective . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1829

Nicholas Sim

68 Multi-criteria Decision Making for Evaluating Mutual FundsInvestment Strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1857

Shin Yun Wang and Cheng-Few Lee

69 Econometric Analysis of Currency Carry Trade . . . . . . . . . . . . . . 1877

Yu-Jen Wang, Huimin Chung, and Bruce Mizrach

70 Evaluating the Effectiveness of Futures Hedging . . . . . . . . . . . . . 1891

Donald Lien, Geul Lee, Li Yang, and Chunyang Zhou

71 Analytical Bounds for Treasury Bond Futures Prices . . . . . . . . . . 1909

Ren-Raw Chen and Shih-Kuo Yeh

72 Rating Dynamics of Fallen Angels and Their SpeculativeGrade-Rated Peers: Static vs. Dynamic Approach . . . . . . . . . . . . 1945

Huong Dang

73 Creation and Control of Bubbles: Managers CompensationSchemes, Risk Aversion, and Wealth and Short SaleConstraints . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1983

James S. Ang, Dean Diavatopoulos, and Thomas V. Schwarz

74 Range Volatility: A Review of Models andEmpirical Studies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2029

Ray Yeutien Chou, Hengchih Chou, and Nathan Liu

xvi Contents

75 Business Models: Applications to Capital Budgeting, EquityValue, and Return Attribution . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2051

Thomas S. Y. Ho and Sang Bin Lee

Volume 4

76 VAR Models: Estimation, Inferences, and Applications . . . . . . . . 2077

Yangru Wu and Xing Zhou

77 Model Selection for High-Dimensional Problems . . . . . . . . . . . . . 2093

Jing-Zhi Huang, Zhan Shi, and Wei Zhong

78 Hedonic Regression Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2119

Ben J. Sopranzetti

79 Optimal Payout Ratio Under Uncertainty and the FlexibilityHypothesis: Theory and Empirical Evidence . . . . . . . . . . . . . . . . . 2135

Cheng-Few Lee, Manak C. Gupta, Hong-Yi Chen, and Alice C. Lee

80 Modeling Asset Returns with Skewness, Kurtosis,and Outliers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2177

Thomas C. Chiang and Jiandong Li

81 Does Revenue Momentum Drive or Ride Earnings orPrice Momentum? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2217

Hong-Yi Chen, Sheng-Syan Chen, Chin-Wen Hsin, and

Cheng-Few Lee

82 A VG-NGARCH Model for Impacts of Extreme Events onStock Returns . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2263

Lie-Jane Kao, Li-Shya Chen, and Cheng-Few Lee

83 Risk-Averse Portfolio Optimization via Stochastic DominanceConstraints . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2281

Darinka Dentcheva and Andrzej Ruszczynski

84 Implementation Problems and Solutions in Stochastic VolatilityModels of the Heston Type . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2303

Jia-Hau Guo and Mao-Wei Hung

85 Stochastic Change-Point Models of Asset Returns and TheirVolatilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2317

Tze Leung Lai and Haipeng Xing

86 Unspanned Stochastic Volatilities and Interest Rate DerivativesPricing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2337

Feng Zhao

Contents xvii

87 Alternative Equity Valuation Models . . . . . . . . . . . . . . . . . . . . . . . 2401

Hong-Yi Chen, Cheng-Few Lee, and Wei K. Shih

88 Time Series Models to Predict the Net Asset Value (NAV) ofan Asset Allocation Mutual Fund VWELX . . . . . . . . . . . . . . . . . . 2445

Kenneth D. Lawrence, Gary Kleinman, and Sheila M. Lawrence

89 Discriminant Analysis and Factor Analysis: Theoryand Method . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2461

Lie-Jane Kao, Cheng-Few Lee, and Tzu Tai

90 Implied Volatility: Theory and Empirical Method . . . . . . . . . . . . 2477

Cheng-Few Lee and Tzu Tai

91 Measuring Credit Risk in a Factor Copula Model . . . . . . . . . . . . 2495

Jow-Ran Chang and An-Chi Chen

92 Instantaneous Volatility Estimation by NonparametricFourier Transform Methods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2519

Chuan-Hsiang Han

93 A Dynamic CAPM with Supply Effect Theory andEmpirical Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2535

Cheng-Few Lee, Chiung-Min Tsai, and Alice C. Lee

94 A Generalized Model for Optimum Futures Hedge Ratio . . . . . . 2561

Cheng-Few Lee, Jang-Yi Lee, Kehluh Wang, and Yuan-Chung Sheu

95 Instrumental Variables Approach to Correct for Endogeneityin Finance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2577

Chia-Jane Wang

96 Application of Poisson Mixtures in the Estimation of Probabilityof Informed Trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2601

Emily Lin and Cheng-Few Lee

97 CEO Stock Options and Analysts’ Forecast Accuracyand Bias . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2621

Kiridaran Kanagaretnam, Gerald J. Lobo, and Robert Mathieu

98 Option Pricing and Hedging Performance Under StochasticVolatility and Stochastic Interest Rates . . . . . . . . . . . . . . . . . . . . . 2653

Charles Cao, Gurdip S. Bakshi, and Zhiwu Chen

99 The Le Chatelier Principle of the Capital MarketEquilibrium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2701

Chin W. Yang, Ken Hung, and Matthew D. Brigida

Author Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2709

Subject Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2749

Reference Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2769

xviii Contents

Contributors

Shigeyuki Abe Faculty of Policy Studies, Doshisha University, Kyoto, Japan

Raj Aggarwal University of Akron, Akron, OH, USA

Mercedes Alda Garcıa Facultad de Economıa y Empresa, Departamento de

Contabilidad y Finanzas, Universidad de Zaragoza, Zaragoza, Spain

Heitor Almeida University of Illinois at Urbana-Champaign, Champaign, IL, USA

James S. Ang Department of Finance, College of Business, Florida State

University, Tallahassee, FL, USA

Augustine C. Arize Texas A & M University-Commerce, Commerce, TX, USA

Zhidong D. Bai KLAS MOE & School of Mathematics and Statistics, Northeast

Normal University, Changchun, China

Department of Statistics and Applied Probability, National University of Singapore,

Singapore, Singapore

Gurdip S. Bakshi Department of Finance, College of Business, University of

Maryland, College Park, MD, USA

Turan G. Bali McDonough School of Business, Georgetown University,

Washington, DC, USA

Alok Bhargava School of Public Policy, University of Maryland, College Park,

MD, USA

Carl S. Bonham College of Business and Public Policy, University of Alaska

Anchorage, Anchorage, AK, USA

Ivan E. Brick Department of Finance and Economics, Rutgers, The State

University of New Jersey, Newark/New Brunswick, NJ, USA

Matthew D. Brigida Department of Finance, Clarion University of Pennsylvania,

Clarion, PA, USA

Murillo Campello Cornell University, Ithaca, NY, USA

xix

Charles Cao Department of Finance, Smeal College of Business, Penn State

University, University Park, PA, USA

Oscar Carchano Department of Financial Economics, University of Valencia,

Valencia, Spain

Jow-Ran Chang National Tsing Hua University, Hsinchu City, Taiwan

Shih-Kang Chao Ladislaus von Bortkiewicz Chair of Statistics, C.A.S.E. – Center

for Applied Statistics and Economics, Humboldt-Universitat zu Berlin, Berlin,

Berlin, Germany

An-Chi Chen KGI Securities Co. Ltd., Taipei, Taiwan

Hong-Yi Chen Department of Finance, National Central University, Taoyuan,

Taiwan

Li-jiun Chen Department of Finance, Feng Chia University, Taichung City,

Taiwan

Li-Shya Chen Department of Statistics, National Cheng-Chi University, Taipei

City, Taiwan

Ren-Raw Chen Graduate School of Business Administration, Fordham

University, New York, NY, USA

Rong Chen Department of Finance, Xiamen University, Xiamen, China

Sheng-Syan Chen National Central University, Zhongli City, Taiwan

Zhiwu Chen School of Management, Yale University, New Haven, USA

Anna Chernobai Department of Finance, M.J. Whitman School of Management,

Syracuse University, Syracuse, NY, USA

Thomas C. Chiang Department of Finance, Drexel University, Philadelphia, PA,

USA

Wan-Jiun Paul Chiou Department of Finance and Law College of Business

Administration, Central Michigan University, Mount Pleasant, MI, USA

Chun-Yuan Chiu National Chiao–Tung University, Taiwan, Republic of China

Institute of Information Management, National Chiao Tung University, Taiwan,

Republic of China

Hengchih Chou Department of Shipping and Transportation Management,

National Taiwan Ocean University, Keelung, Taiwan

Ray Yeutien Chou Institute of Economics, Academia Sinica and National Chiao

Tung University, Taipei, Taiwan

Win Lin Chou Department of Economics and Finance, City University of Hong

Kong, Hong Kong, China

xx Contributors

Huimin Chung Graduate Institute of Finance, National Chiao Tung University,

Hsinchu, Taiwan

Michael L. Clutter Warnell School of Forestry and Natural Resources, University

of Georgia, Athens, GA, USA

Richard Cohen University of Hawaii Economic Research Organization and

Economics, University of Hawaii at Manoa, Honolulu, HI, USA

Tian-Shyr Dai National Chiao-Tung University, Taiwan, Republic of China

Huong Dang University of Canterbury, Christchurch, New Zealand

Darinka Dentcheva Department of Mathematical Sciences, Stevens Institute of

Technology, Hoboken, NJ, USA

Dean Diavatopoulos Finance, Villanova University, Villanova, PA, USA

Gang Nathan Dong Columbia University, New York, NY, USA

Diep Duong Department of Business and Economics, Utica College, Utica, NY,

USA

Frank J. Fabozzi EDHEC Business School, EDHEC Risk Institute, Nice, France

Luis Ferruz Facultad de Economıa y Empresa, Departamento de Contabilidad y

Finanzas, Universidad de Zaragoza, Zaragoza, Spain

Wayne E. Ferson University of Southern California, Los Angeles, CA, USA

Cheng-der Fuh Graduate Institute of Statistics, National Central University,

Zhongli City, Taiwan

Antonio F. Galvao University of Iowa, Iowa City, IA, USA

Gerard L. Gannon Deakin University, Burwood, VIC, Australia

Fernando Gomez-Bezares Universidad de Deusto, Bilbao, Spain

John W. Goodell College of Business Administration, University of Akron,

Akron, OH, USA

Hongtao Guo Bertolon School of Business, Salem State University, Salem, MA,

USA

Jia-Hau Guo Institution of Finance, College of Management, National Chiao

Tung University, Hsinchu, Taiwan

Manak C. Gupta Temple University, Philadelphia, PA, USA

Ahmed Hachicha Department of Economic Development, Faculty of Economics

and Management of Sfax, University of Sfax, Sfax, Tunisia

Fatma Hachicha Department of Finance, Faculty of Economics and Management

of Sfax, Sfax, Tunisia

Contributors xxi

Chuan-Hsiang Han Department of Quantitative Finance, National Tsing Hua

University, Hsinchu, Taiwan, Republic of China

Wolfgang Karl Hardle Ladislaus von Bortkiewicz Chair of Statistics, C.A.S.E. –

Center for Applied Statistics and Economics, Humboldt–Universitat zu Berlin,

Berlin, Berlin, Germany

Lee Kong Chian School of Business, Singapore Management University,

Singapore, Singapore

Richard Heaney Accounting and Finance, The University of Western Australia,

Perth, Australia

Yuna Heo Rutgers Business School, Rutgers, The State University of New Jersey,

Newark-New Brunswick, NJ, USA

Hemantha Herath Department of Accounting, Faculty of Business, Brock

University, St. Catharines, ON, Canada

Thomas S. Y. Ho Thomas Ho Company Ltd, New York, NY, USA

Der-Tzon Hsieh Department of Economics, National Taiwan University, Taipei,

Taiwan

Chin-Wen Hsin Yuan Ze University, Zhongli City, Taiwan

Chun-Pin Hsu Department of Accounting and Finance, York College, The City

University of New York, Jamaica, NY, USA

Yu Chuan Hsu National Chi Nan University, Nantou, Taiwan

Jian Hua Baruch College (CUNY), New York, NY, USA

Bwo-Nung Huang National Chung-Cheng University, Minxueng Township,

Chiayi County, Taiwan

Chin-Wen Huang Department of Finance, Western Connecticut State University,

Danbury, CT, USA

Jing-Zhi Huang Smeal College of Business, Penn State University, University

Park, PA, USA

Yongchang C. Hui School of Mathematics and Statistics, Xi’an Jiaotong

University, Xi’an, China

Ken Hung Division of International Banking & Finance Studies, Texas A&M

International University, Laredo, TX, USA

Mao-Wei Hung College of Management, National Taiwan University, Taipei,

Taiwan

John S. Jahera Jr. Department of Finance, College of Business, Auburn

University, Auburn, AL, USA

xxii Contributors

Kiridaran Kanagaretnam Schulich School of Business, York University,

Toronto, ON, Canada

Long Kang Department of Finance, Antai College of Economics and

Management, Shanghai Jiao Tong University, Shanghai, China

The Options Clearing Corporation and Center for Applied Economics and Policy

Research, Indiana University, Bloomington, IN, USA

Lie-Jane Kao Department of Finance and Banking, Kainan University, Taoyuan,

ROC, Taiwan

Young Shin (Aaron) Kim College of Business, Stony Brook University, Stony

Brook, NY, USA

Gary Kleinman Montclair State University, Montclair, NJ, USA

April Knill The Florida State University, Tallahassee, FL, USA

Alexander Kogan Rutgers Business School, Rutgers, The State University of

New Jersey, Newark–New Brunswick, NJ, USA

Rutgers Center for Operations Research (RUTCOR), Piscataway, NJ, USA

Joshua Krausz Yeshiva University, New York, NY, USA

Wikil Kwak University of Nebraska at Omaha, Omaha, NE, USA

Tze Leung Lai Stanford University, Stanford, CA, USA

Miranda S. Lam Bertolon School of Business, Salem State University, Salem,

MA, USA

Kenneth D. Lawrence New Jersey Institute of Technology, Newark, NJ, USA

Sheila M. Lawrence Rutgers, The State University of New Jersey, New

Brunswick, NJ, USA

Alice C. Lee State Street Corp., USA

Cheng-Few Lee Department of Finance and Economics, Rutgers Business

School, Rutgers, The State University of New Jersey, Piscataway, NJ, USA

Graduate Institute of Finance, National Chiao Tung University, Hsinchu, Taiwan

Chia-Ju Lee College of Business, Chung Yuan University, Chungli, Taiwan

Chien-Hui Lee National Kaohsiung University of Applied Sciences, Kaohsiung,

Taiwan

Geul Lee University of New South Wales, Sydney, Australia

Heeseok Lee Korea Advanced Institute of Science and Technology, Yuseong-gu,

Daejeon, South Korea

Contributors xxiii

Jang-Yi Lee Tunghai University, Taichung, Taiwan

Jieun Lee Economic Research Institute, Bank of Korea, Seoul, South Korea

John C. Lee Center for PBBEF Research, North Brunswick, NJ, USA

Kin-Wai Lee Division of Accounting, Nanyang Business School, Nanyang

Technological University, Singapore, Singapore

Kuo-Hao Lee Department of Finance, College of Business, Bloomsburg

University of Pennsylvania, Bloomsburg, PA, USA

Sang Bin Lee Hanyang University, Seong-Dong-Ku, Seoul, Korea

Miguel A. Lejeune George Washington University, Washington, DC, USA

Jiandong Li Chinese Academy of Finance and Development (CAFD) and Central

University of Finance and Economics (CUFE), Beijing, China

Chan-Chien Lien Treasury Division, E.SUN Commercial Bank, Taipei, Taiwan

Donald Lien The University of Texas at San Antonio, San Antonio, TX, USA

Si Rou Lim National Chi Nan University, Nantou, Taiwan

Emily Lin St. John’s University, New Taipei City, Taiwan

Fang-Pang Lin National Center for High Performance Computing, Hsinchu,

Taiwan

Hai Lin School of Economics and Finance, Victoria University of Wellington,

Wellington, New Zealand

Hsuan-Chu Lin Graduate Institute of Finance and Banking, National Cheng-

Kung University, Tainan, Taiwan

Nathan Liu Department of Finance, Feng Chia University, Taichung, Taiwan

Gerald J. Lobo C.T. Bauer College of Business, University of Houston, Houston,

TX, USA

Anastasia Maggina Business Consultant/Research Scientist, Avlona, Attikis,

Greece

Afif Masmoudi Department of Mathematics, Faculty of Sciences of Sfax, Sfax,

Tunisia

Philippe Masset Ecole Hoteliere de Lausanne, Le-Chalet-a-Gobet, Lausanne 25,

Switzerland

Robert Mathieu School of Business and Economics, Wilfrid Laurier University,

Waterloo, ON, Canada

Bin Mei Warnell School of Forestry and Natural Resources, University of

Georgia, Athens, GA, USA

xxiv Contributors

Thomas Meinl Karlsruhe Institute of Technology (KIT), Karlsruhe, Germany

Kristina L. Minnick Bentley University, Waltham, MA, USA

Heather Mitchell RMIT University, Melbourne, VIC, Australia

Bruce Mizrach Department of Economics, Rutgers, The State University of New

Jersey, New Brunswick, NJ, USA

Kiseok Nam Yeshiva University, New York, NY, USA

Ali Nejadmalayeri Department of Finance, Oklahoma State University,

Oklahoma, OK, USA

Shou Zhong Ng Hong Kong Monetary Authority, Hong Kong, China

Oded Palmon Department of Finance and Economics, Rutgers Business School –

Newark and New Brunswick, Piscataway, NJ, USA

Dilip K. Patro RAD, Office of the Comptroller of the Currency, Washington, DC,

USA

Robert L. Porter Department of Finance School of Business, Quinnipiac

University, Hamden, CT, USA

Svetlozar T. Rachev Department of Applied Mathematics and Statistics, College

of Business, Stony Brook University, SUNY, Stony Brook, NY, USA

FinAnalytica, Inc, New York, NY, USA

Vikash Ramiah School of Economics, Finance and Marketing, RMIT University,

Melbourne, Australia

Raafat R. Roubi Department of Accounting, Faculty of Business, Brock

University, St. Catharines, ON, Canada

Andrzej Ruszczynski Department of Management Science and Information

Systems, Rutgers, The State University of New Jersey, Piscataway, NJ, USA

G.V. Satya Sekhar Department of Finance, GITAM Institute of Management,

GITAM University, Visakhapatnam, Andhra Pradesh, India

Robert A. Schwartz Zicklin School of Business, Baruch College, CUNY, New

York, NY, USA

Thomas V. Schwarz Stetson University, DeLand, FL, USA

Yuan-Chung Sheu National Chiao-Tung University, Hsinchu, Taiwan

Yong Shi University of Nebraska at Omaha, Omaha, NE, USA

Chinese Academy of Sciences, Beijing, China

Zhan Shi Smeal College of Business, Penn State University, University Park, PA,

USA

Contributors xxv

Tung-Li Shih Department of Hospitality Management, Ming Dao University,

Changhua Peetow, Taiwan

Wei K. Shih Bates White Economic Consulting, Washington, DC, USA

Andrew F. Siegel University of Washington, Seattle, WA, USA

Nicholas Sim School of Economics, University of Adelaide, Adelaide, SA,

Australia

Ben J. Sopranzetti Rutgers, The State University of New Jersey, Newark, NJ,

USA

Suresh Srivastava University of Alaska Anchorage, Anchorage, AK, USA

Jung-Bin Su Department of Finance, China University of Science and

Technology, Nankang, Taipei, Taiwan

Edward W. Sun KEDGE Business School and BEM Management School,

Bordeaux, France

Norman R. Swanson Department of Economics, Rutgers, The State University of

New Jersey, New Brunswick, NJ, USA

Tzu Tai Department of Finance and Economics, Rutgers, The State University of

New Jersey, Piscataway, NJ, USA

Alex P. Tang Morgan State University, Baltimore, MD, USA

Stephen J. Taylor Lancaster University Management School, Lancaster, UK

Stuart Thomas RMIT University, Melbourne, VIC, Australia

Chiung-Min Tsai Central Bank of the Republic of China (Taiwan), Taipei,

Taiwan, Republic of China

Maria Vargas Universidad de Zaragoza, Zaragoza, Spain

Itzhak Venezia School of Business, The Hebrew University, Jerusalem, Israel

Bocconi University, Milan, Italy

Chia-Jane Wang Manhattan College, Riverdale, NY, USA

Cindy Shin-Huei Wang CORE, Universite Catholique de Louvain and FUNDP,

Academie Louvain, Louvain-la-Neuve, Belgium

Department of Quantitative Finance, National TsingHwa University, Hsinchu City,

Taiwan

Kehluh Wang Graduate Institute of Finance, National Chiao Tung University,

Hsinchu, Taiwan

Shin Yun Wang National Dong Hwa University, Shou-Feng, Hualien, Taiwan

xxvi Contributors

Weining Wang Ladislaus von Bortkiewicz Chair of Statistics, C.A.S.E. – Center

for Applied Statistics and Economics, Humboldt-Universitat zu Berlin, Berlin,

Berlin, Germany

Yanzhi Wang Yuan Ze University, Taiwan

Department of Finance, College of Management, National Taiwan University,

Taipei, Taiwan

Yu-Jen Wang Graduate Institute of Finance, National Chiao Tung University,

Hsinchu, Taiwan

Bruce W. Weber Lerner College of Business and Economics, University of

Delaware, Newark, DE, USA

K. C. John Wei Hong Kong University of Science and Technology, Kowloon,

Hong Kong

Wing-Keung Wong Department of Economics, Hong Kong Baptist University,

Kowloon, Hong Kong

Po-Cheng Wu Department of Finance and Banking, Kainan University, Taoyuan,

ROC, Taiwan

Yangru Wu Rutgers Business School – Newark and New Brunswick, Rutgers,

The State University of New Jersey, New Brunswick, NJ, USA

Zhijie Xiao Department of Economics, Boston College, Chestnut Hill, MA, USA

Yi Meng Xie School of Business and Administration, Beijing Normal University,

Beijing, China

Department of Economics, University of Southern California, Los Angeles, CA,

USA

Haipeng Xing SUNY at Stony Brook, Stony Brook, NY, USA

Li Xu Washington State University, Richland, WA, USA

Chin W. Yang Clarion University of Pennsylvania, Clarion, PA, USA

National Chung Cheng University, Chia–yi, Taiwan

Li Yang University of New South Wales, Sydney, Australia

Yating Yang Graduate Institute of Finance, National Chiao Tung University,

Hsinchu, Taiwan

Shih-Kuo Yeh Department of Finance, National Chung Hsing University,

Taichung 402, Taiwan, Republic of China

Hai-Chin Yu Department of International Business, Chung Yuan University,

Chungli, Taiwan

Contributors xxvii

Jing Rung Yu National Chi Nan University, Nantou, Taiwan

Qianni Yuan Department of Finance, Xiamen University, Xiamen, China

Kamil Yilmaz College of Administrative Sciences and Economics, Koc

University, Istanbul, Turkey

Shaojun Zhang School of Accounting and Finance, Faculty of Business, Hong

Kong Polytechnic University, Hung Hom, Kowloon, Hong Kong

Feng Zhao The University of Texas at Dallas, Richardson, TX, USA

Wei Zhong Wang Yanan Institute for Studies in Economics and Department of

Statistics, School of Economics, Xiamen University, Xiamen, China

Chunyang Zhou Shanghai Jiaotong University, Shanghai, China

Xing Zhou Rutgers Business School – Newark and New Brunswick, Rutgers,

The State University of New Jersey, New Brunswick, NJ, USA

xxviii Contributors