We study the effect of introducing a nonredundant derivative on the volatilities of the stock market return and the locally risk-free interest rate. Our analysis uses a standard, frictionless, full-information, dynamic, continuous-time, general-equilibrium, Lucas endowment economy in which there are two classes of agents who have time-additive power utility functions and differ only in their risk aversion. Our main result is to show analytically that if the intensity of the precautionary demand for savings is not too high, then the introduction of a nonredundant derivative increases the volatility of stock market returns. Furthermore, in the economy with the derivative, the volatility of stock market returns can be substantially greater than that of aggregate dividend growth (fundamental volatility). We also show that the volatility of the locally risk-free interest rate increases with the introduction of the derivative.

This paper provides an optimal filtering methodology in discretely observed continuous-time jump-diffusion models. Although the filtering problem has received little attention, it is useful for estimating latent states, forecasting volatility and returns, computing model diagnostics such as likelihood ratios, and parameter estimation. Our approach combines time-discretization schemes with Monte Carlo methods. It is quite general, applying in nonlinear and multivariate jump-diffusion models and models with nonanalytic observation equations. We provide a detailed analysis of the filter's performance, and analyze four applications: disentangling jumps from stochastic volatility, forecasting volatility, comparing models via likelihood ratios, and filtering using option prices and returns.

We examine the relation between auditor tenure and a firm's ability to use discretionary accruals to meet or beat analysts' earnings forecasts. We find evidence over the period 1988-2006 that firms with both short and long tenure are more likely to report levels of discretionary accruals that allow them to meet or beat earnings forecasts. These results suggest that while regulatory mandates for periodic auditor turnover have negative effects, sustained long-term auditor-client relationships may also be detrimental to audit quality. Further, although we observe a positive relation between tenure and the use of discretionary accruals to meet or beat earnings in the pre-Sarbanes-Oxley (SOX) period, we do not observe such a relation in the post-SOX period. This latter finding is consistent with regulatory reforms and heightened scrutiny of financial reporting in the post-SOX period resulting in less aggressive efforts at managing earnings by client firms and/or increased diligence on the part of auditors. These findings may not generalize to firms that are not covered by analysts, because these firms do not face the same public pressure to manage earnings in order to meet or beat expectations. © CAAA.

Commodity derivatives are becoming an increasingly important part of the global derivatives market. Here we develop a tractable stochastic volatility model for pricing commodity derivatives. The model features unspanned stochastic volatility, quasi-analytical prices of options on futures contracts, and dynamics of the futures curve in terms of a low-dimensional affine state vector. We estimate the model on NYMEX crude oil derivatives using an extensive panel data set of 45,517 futures prices and 233,104 option prices, spanning 4082 business days. We find strong evidence for two predominantly unspanned volatility factors.

We develop a tractable and flexible stochastic volatility multifactor model of the term structure of interest rates. It features unspanned stochastic volatility factors, correlation between innovations to forward rates and their volatilities, quasi-analytical prices of zero-coupon bond options, and dynamics of the forward rate curve, under both the actual and risk-neutral measures, in terms of a finite-dimensional affine state vector. The model has a very good fit to an extensive panel dataset of interest rates, swaptions, and caps. In particular, the model matches the implied cap skews and the dynamics of implied volatilities.

ABSTRACT In this study, we examine whether managers delay disclosure of bad news relative to good news. If managers accumulate and withhold bad news up to a certain threshold, but leak and immediately reveal good news to investors, then we expect the magnitude of the negative stock price reaction to bad news disclosures to be greater than the magnitude of the positive stock price reaction to good news disclosures. We present evidence consistent with this prediction. Our analysis suggests that management, on average , delays the release of bad news to investors.

Abstract In this paper, we examine how stock option usage affects total corporate payout. Using fixed-effects panel data estimators on various samples of ExecuComp firms from 1993 to 2005, we find the higher the executive stock options, the lower the total payout, ceteris paribus. We also find some evidence that firms increase payouts through repurchases in order to offset earnings per share dilution that occurs due to usage of executive and non-executive stock options. However, incentives from not having dividend protection for options appear to dominate those from antidilution, resulting in lower total payout for firms with higher options usage.

Structural models of default calibrated to historical default rates, recovery rates, and Sharpe ratios typically generate Baa-Aaa credit spreads that are significantly below historical values. However, this "credit spread puzzle" can be resolved if one accounts for the fact that default rates and Sharpe ratios strongly covary; both are high during recessions and low during booms. As a specific example, we investigate credit spread implications of the Campbell and Cochrane (1999) pricing kernel calibrated to equity returns and aggregate consumption data. Identifying the historical surplus consumption ratio from aggregate consumption data, we find that the implied level and time variation of spreads match historical levels well.