This paper presents a general intensity-based framework to value executive stock options (ESOs). It builds upon the recent advances in the credit risk modeling arena. The early exercise or forfeiture due to voluntary or involuntary employment termination and the early exercise due to the executive’s desire for liquidity or diversification are modeled as an exogenous point process with random intensity dependent on the stock price. Two analytically tractable specifications are given where the ESO value, expected time of exercise or forfeiture, and the expected stock price at the time of exercise or forfeiture are calculated in closed-form.
Although there has been an intensive debate on the relative merits of different systems of corporate governance, empirical evidence on the link between corporate governance and firm performance almost exclusively refers to the market-oriented Anglo-Saxon system. This paper therefore investigates the more network- or bank-oriented German system. In panel regressions for 361 German corporations over the time period 1991 to 1996, we find ownership concentration to affect profitability significantly negatively. However, this effect depends intricately on stock market exposure, the location of control rights, and the time horizon (short-run vs. long-run). We conclude from our results that (1) the presence of large shareholders does not necessarily enhance profitability,(2) ownership concentration seems to be sub-optimal for many German corporations, and, finally, (3) having financial institutions as largest shareholders of traded corporations improves corporate performance.
The effect of incomplete information on the term structure of interest rates is examined in the framework of a pure exchange economy under uncertainty where aggregate output grows at a constant rate. If the growth rate is known, the term structure is flat. In contrast, the term structure is a decreasing curve when agents do not know the growth rate. Long term yields are less than the short rate and the yield of long term bonds is determined by the worst possible realizations of future short rates.
We propose a simple model that is suitable for evaluating alternative bank capital regulatory proposals for market risk. Our model formalizes the conflict between bank objectives and regulatory goals. Banks' decisions represent a tension between their desire to exploit the deposit-insurance put option and their desire to preserve franchise value. Regulators seek to balance the social value of deposits in mediating transactions against the deadweight costs of failure resolution. Our social welfare criterion is standard: a weighted average agents' utilities. We demonstrate that banks do not incrementally alter their portfolio risk as the economic environment changes. Rather, banks either choose the minimal feasible risk or the maximal feasible risk. This pattern, in turn, drives regulatory decisions: The first goal of the regulator is to induce banks to choose the minimal risk level. For all nontrivial cases, unregulated banks fail to choose the first-best allocations. Traditional ex-ante capital requirements can induce banks to choose the socially-optimal level of portfolio risk, but the required capital is often inefficiently high. In contrast, variants of the Federal Reserve Board's precommitment proposal imply far smaller efficiency losses, and achieve allocations at or nearthe first-best for most reasonable model specifications. The ex-post penalties required for the optimal implementation of precommitment are not excessively large. The welfare gains from precommitment are even higher when the precommitment penalty function is precluded from sending banks into default. We conclude that state-contingent regulatory mechanisms, of which the precommitment approach is an example, offer the possibility of substantial gains in regulatory efficiency, relative to traditional state non-contingent regulation.
Brian Huge, David Lando; Swap Pricing with Two-Sided Default Risk in a Rating-Based Model *, European Finance Review, Volume 3, Issue 3, 1 January 1999, Pa
With constrained portfolios contingent claims do not generally have a unique price that rules out arbitrage opportunities. Earlier studies have demonstrated that when there are constraints onthe hedge portfolio, a no-arbitrage price interval for any contingent claim exists. I consider the more realistic case where the constraints are imposed on the total portfolio of each investor and define reservation buying and selling prices for contingent claims. I derive properties of these prices, show how they can be computed numerically, and study two simple examples in which the reservation prices and the corresponding hedging strategies are compared to the Black–Scholes setting.