Chau-nan Chen, Tien-wang Tsaur; Currency Substitution and Foreign Inflation*, The Quarterly Journal of Economics, Volume 98, Issue 1, 1 February 1983, Page

The compass rose phenomenon is studied based on the random walk model of stock prices. It is found that the structure is inherently present in any financial data having a finite precision, but becomes visible only under some conditions. A quantitative description of the pattern visibility condition is given, providing a method for the interpretation of pattern appearance and a more comprehensive understanding of the compass rose phenomenon. This is achieved by defining a measure of pattern quality. The arguments and the proposed method are supported by numerical examples. One such example is the presentation of patterns in portfolios with some specific weights.

We study the dynamics of trading volume and bid-ask spread using a multiperiod trading model with oligopolistic market makers. Traders smooth out their trading even though they are not strategic, and thus trading persists after the arrival of information or liquidity shocks. Traders act quickly on their private information while postponing hedging trades until later periods. The market power of market makers enables them to widen bid-ask spreads when trading incentives are heightened. Consequently, both trading volume and bid-ask spread may exhibit U-shaped patterns. Our model calibration aligns with the empirical intraday patterns observed in bid-ask spreads and trading volumes.

This paper incorporates rational expectations, full price flexibility, and currency substitution into the usual small-economy model, taking explicit account of inflation abroad. Not only will the steady-state terms of trade be affected by an increase in the rate of monetary expansion when the inflation rate abroad is assumed to be nonzero, but its dynamic path may also be different from the usual case in which inflation abroad is ignored. It has been shown that if the import demands are relatively inelastic, the terms of trade will undershoot their equilibrium value; if the import demands are elastic, the terms of trade will overshoot. The key to these diametrically opposite results is the degree of ultimate deterioration in the terms of trade, which, in turn, turn on the size of the two import demand elasticities.

We examine how the financial constraints of repurchasing firms affect their post-buyback performance. By every constraint measure we use, a set of constrained firms repurchase. They display significantly poorer post-buyback abnormal return and operating performance than unconstrained firms. Financial constraints are more important in explaining the performance of share buybacks for firms with high actual repurchase ratios. Constrained firms, especially those with high actual repurchase ratios, experience a significantly greater increase in post-buyback distress risk than unconstrained firms. Managerial hubris could explain why constrained firms buy back shares even if the buybacks do not improve shareholder wealth.

By using a different derivation scheme, a new class of two-sided coherent risk measures is constructed in this paper. Different from existing coherent risk measures, both positive and negative deviations from the expected return are considered in the new measure simultaneously but differently. This innovation makes it easy to reasonably describe and control the asymmetry and fat-tail characteristics of the loss distribution and to properly reflect the investor’s risk attitude. With its easy computation of the new risk measure, a realistic portfolio selection model is established by taking into account typical market frictions such as taxes, transaction costs, and value constraints. Empirical results demonstrate that our new portfolio selection model can not only suitably reflect the impact of different trading constraints, but find more robust optimal portfolios, which are better than the optimal portfolio obtained under the conditional value-at-risk measure in terms of diversification and typical performance ratios.