We show whether central clearing of a particular class of derivatives lowers counterparty risk. For plausible cases, adding a central clearing counterparty (CCP) for a class of derivatives such as credit default swaps reduces netting efficiency, leading to an increase in average exposure to counterparty default. Further, clearing different classes of derivatives in separate CCPs always increases counterparty exposures relative to clearing the combined set of derivatives in a single CCP. We provide theory as well as illustrative numerical examples of these results that are calibrated to notional derivatives position data for major banks.

We present a model for the equilibrium movement of capital between asset markets that are distinguished only by the levels of capital invested in each. Investment in that market with the greatest amount of capital earns the lowest risk premium. Intermediaries optimally trade off the costs of intermediation against fees that depend on the gain they can offer to investors for moving their capital to the market with the higher mean return. The bargaining power of an investor depends on potential access to alternative intermediaries. In equilibrium, the speeds of adjustment of mean returns and of capital between the two markets are increasing in the degree to which capital is imbalanced between the two markets, and can be reduced by competition among intermediaries.

If you pick up a copy of Theory of Valuation,1 and I suggest that you do, the first thing likely to impress you is the length of the editors' last names (26 letters in total). After getting over that, you will probably turn to the table of contents to see which of your friends or mentors are represented. If you are like me, you might be embarrassed that you had not yet read one (I will not say which one in my case), or perhaps more, of these classics, and you might feel that there are one or more pieces that might have been added. Perhaps your choices would include Harrison and Kreps' (1979) martingale characterization of security prices or Arrow's (1953) paper on “The Role of Securities in the Optimal Allocation of Risk Bearing,” (still required reading for doctoral finance students at Stanford). On the whole, however, you will be impressed. If you teach a course on asset pricing theory for doctoral students, you are likely to adopt this book as a supplementary text. If you read the book from cover to cover, including the mainly excellent new discussions, you will have fun and will profit from the time spent.

Stochastic equilibria under uncertainty with continuous-time security trading and consumption are demonstrated in a general setting. A common question is whether the current price of a security is an unbiased predictor of the future price of the security plus intermediate dividends. This is the hypothesis of expected financial gains from trade. The relevance of this hypothesis in multi-good economies is called into question by the following demonstrated fact. For each set of probability assessments there exists a corresponding equilibrium, one with the original agents, original equilibrium allocations, and no expected financial gains from trade under the given probability assessments. The spanning number of the economy is defined as the fewest number of security markets required to sustain a complete markets equilibrium (in a dynamic sense made precise in the paper). The spanning number is linked directly to agent primitives, in particular the manner in which new information resolves uncertainty over time. The spanning number is shown to be invariant under bounded changes in expectations. Several examples are given in which the spanning number is finite even though the number of potential states of the world is infinite.

This article combines an orientation to credit risk modeling with an introduction to affine Markov processes, which are particularly useful for financial modeling. We emphasize corporate credit risk and the pricing of credit derivatives. Applications of affine processes that are mentioned include survival analysis, dynamic term-structure models, and option pricing with stochastic volatility and jumps. The default-risk applications include default correlation, particularly in first-to-default settings. The reader is assumed to have some background in financial modeling and stochastic calculus.

ABSTRACT I describe asset price dynamics caused by the slow movement of investment capital to trading opportunities. The pattern of price responses to supply or demand shocks typically involves a sharp reaction to the shock and a subsequent and more extended reversal. The amplitude of the immediate price impact and the pattern of the subsequent recovery can reflect institutional impediments to immediate trade, such as search costs for trading counterparties or time to raise capital by intermediaries. I discuss special impediments to capital formation during the recent financial crisis that caused asset price distortions, which subsided afterward. After presenting examples of price reactions to supply shocks in normal market settings, I offer a simple illustrative model of price dynamics associated with slow‐moving capital due to the presence of inattentive investors.

ABSTRACT This article provides the causes and symptoms of special repo rates in a competitive market for repurchase agreements. A repo rate is, in effect, an interest rate on loans collateralized by a specific instrument. A “special” is a repo rate significantly below prevailing market riskless interest rates. This article shows that specials can occur when those owning the collateral are inhibited, whether from legal or institutional requirements or from frictional costs, from supplying collateral into repurchase agreements. Specialness increases the equilibrium price for the underlying instrument by the present value of savings in borrowing costs associated with the repo specials.

This article provides the causes and symptoms of special repo rates in a competitive market for repurchase agreements. A repo rate is, in effect, an interest rate on loans collateralized by a specific instrument. A “special” is a repo rate significantly below prevailing market riskless interest rates. This article shows that specials can occur when those owning the collateral are inhibited, whether from legal or institutional requirements or from frictional costs, from supplying collateral into repurchase agreements. Specialness increases the equilibrium price for the underlying instrument by the present value of savings in borrowing costs associated with the repo specials.

Abstract We explain how the common practice of size-discovery trade detracts from overall financial market efficiency. At each of a series of size-discovery sessions, traders report their desired trades, generating allocations of the asset and cash that rely on the most recent exchange price. Traders can thus mitigate exchange price impacts by waiting for size-discovery sessions. This waiting causes socially costly delays in the rebalancing of asset positions across traders. As the frequency of size-discovery sessions is increased, exchange market depth is further lowered by the traders’ reduced incentive to bid aggressively on the exchange, further delaying the rebalancing of positions, and more than offsetting the gains from trade that occur at each of the size-discovery sessions.