Buying and selling at the speed of light: Taking stock of high
frequency trading
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On June 18, 2012 research track lead Pete Kyle spoke at the American
Enterprise Institute (AEI) about high frequency trading (HFT), its implications
for the financial industry, and some possible reforms.
Discussion of Cost-Benefit Analysis in SEC Rulemaking
by Albert S. (Pete) Kyle
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On April 16, 2012 at Columbia University’s Law and Economics of Capital
Markets Fellows Workshop, Professor Kyle discussed the cost-benefit analysis of
SEC rulemaking. As a framework for his presentation, Professor Kyle examined the
six recommendations of the SEC’s Office of Inspector General study on the topic
and offered his opinion of each recommendation.
Financial Economists Roundtable (FER) Statement of the Financial
Economists Roundtable on Reforming the OTC Derivatives Markets
by Chester S. Spatt, Darrell Duffie and Albert S. (Pete) Kyle
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Research Track Lead Pete Kyle and CFP Academic Fellow Chester Spatt authored
this FER statement released on June 29, 2010, a result of a discussion at FER's
annual meeting on July 18-20, 2009 at Skamania Lodge in the Columbia River
Gorge. Professors Kyle and Spatt, along with CFP Director Lemma Senbet, are
members of The
Financial Economists Roundtable, a group of senior financial economists, who
have made significant contributions to the finance literature and seek to apply
their knowledge to current policy debates.
Monitoring Daily Hedge Fund Performance When Only Monthly Data is
Available
By Russ Wermers, Daniel Li, Michael Markov
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Abstract: This paper introduces a new approach to
monitoring the daily risk of investing in hedge funds. Specifically, we use
low-frequency (monthly) models to forecast high-frequency (daily) hedge fund
returns. more...
This approach addresses the common problem that confronts investors
who wish to monitor their hedge funds on a daily basis—disclosure of returns
by funds occurs only at a monthly frequency, usually with a time lag. We use
monthly returns on investable assets or factors to fit monthly hedge fund
returns, then forecast daily returns of hedge funds during the following
month using the publicly observed daily returns on the explanatory assets.
We show that our replication approach can be used to forecast daily returns
of long/short hedge funds. In addition, for diversified portfolios such as
hedge fund indices and funds-of-hedge-funds, it forecasts daily returns very
accurately. We illustrate how our simple replication approach can be used to
(1) hedge daily hedge fund risk and (2) estimate and control value-at-risk.
A Call for Credit Policy
by Dilip B. Madan
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Working Paper
Abstract: Madan's submission for the ICFR-FT Research
Prize for 2010 was among the top ten submissions. The paper summarizes recent research
explaining why capital requirements are needed, who should
be faced with such, and how they should be determined and implemented.
more...
The paper calls for a credit and leverage monitoring authority but more
importantly develops the theoretical foundations for such an activity. These
foundations build on the theory of two price markets recognizing that
liabilities on balance sheets are to be valued at ask prices while assets
are carried at bid. Capital reserves making up for the difference.
Inadequacies in Basel capital ratio definitions are highlighted.
The Flash Crash: The Impact of High Frequency Trading on an
Electronic Market
by Andrei Kirilenko, Mehrdad Samadi, Albert S. Kyle, Tugkan Tuzun
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Working Paper
Abstract: The Flash Crash, a brief period of extreme
market volatility on May 6, 2010, raised a number of questions about the
structure of the U.S. financial markets. In this paper, we describe the
market structure of the bellwether E-mini S&P 500 stock index futures market
on the day of the Flash Crash. more...
We use audit-trail, transaction-level data for all regular transactions
to classify over 15,000 trading accounts that traded on May 6 into six
categories: High Frequency Traders, Intermediaries, Fundamental Buyers,
Fundamental Sellers, Opportunistic Traders, and Noise Traders. We ask three
questions. How did High Frequency Traders and other categories trade on May
6? What may have triggered the Flash Crash? What role did High Frequency
Traders play in the Flash Crash? We conclude that High Frequency Traders did
not trigger the Flash Crash, but their responses to the unusually large
selling pressure on that day exacerbated market volatility.
Mutual Fund Performance and Governance Structure:
The Role of
Portfolio Managers and Boards of Directors
by Bill Ding & Russ Wermers
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Working Paper
Abstract: This paper conducts a comprehensive analysis
of the relation between the performance and governance structure of
open-end, domestic-equity mutual funds during the 1985 to 2002 period.
more...
We show that experienced large-fund portfolio managers outperform their
size, book-to-market, and momentum benchmarks, but that experienced
small-fund portfolio managers underperform their benchmarks—indicating the
presence of managerial entrenchment in the mutual fund industry. When we
examine the role of fund boards, we find that independent directors are
crucial for terminating underperforming seasoned portfolio managers, as
outflows are not sufficient to pressure the management company to do so. In
fact, our evidence indicates that independent boards impact pre-expense
performance much more significantly than their prior-documented impact on
fund fees. We also find a role for internal governance: inside directors and
large management company complexes appear to better monitor performance due
to “hidden actions,” as well as terminating underperforming inexperienced
managers.
