Risk appetite estimation on financial markets

65 Pages·2013·0.88 MB·English

Charles University in Prague
Faculty of Social Sciences
Institute of Economic Studies
BACHELOR THESIS
Risk appetite estimation on financial
markets
Author: Vojtˇech Fidler
Supervisor: Doc. PhDr. Adam Gerˇsl, Ph.D.
Academic Year: 2012/2013
Declaration of Authorship
The author hereby declares that he compiled this thesis independently, using
only the listed resources and literature.
The author confirms that the work was not used to obtain any other university
degree. Charles University is granted permission to reproduce and to distribute
copies of this document in whole or in part.
Prague, May 11, 2013
Signature
Acknowledgments
I am especially grateful to Doc. PhDr. Adam Gerˇsl Ph.D. for his influence
and great effort on supervision of this work, and to Ing. Tom´aˇs Tesaˇr for data
provision. My thanks also go to teachers and fellows from the IES for their
daily influence and to all my relatives and friends who supported me during
writing this thesis.
Bibliographic entry
FIDLER, V. (2013): “Risk appetite estimation on financial markets.”(Unpub-
lished bachelor thesis). Charles University in Prague. Supervisor: Doc. PhDr.
Adam Gerˇsl, Ph.D.
Abstract
The thesis studies role of risk appetite on financial markets. In theoretical
part, author describes a notion of this concept, refers to known methods and
describes the role of behavioral economics in treatment of this concept. In
practical part, models are constructed to explain influence of selected indices
on CDS which proxy for sovereign risk of individual developed and emerging
markets. Across the globe, there is found strong common component which can
be explained by selected indices. It is also observed that GRAI indicator can
play role in case of emerging markets. In case of developed markets, however,
thispropertyismissing. GrangercausalitydoesnotproverelationshipofGRAI
explanation power in direction to sovereign risk.
JEL Classification C51, D80, F40 G12, G15
Keywords risk appetite, risk aversion, sovereign risk, finan-
cial markets
Author’s e-mail [email protected]
Supervisor’s e-mail [email protected]
Abstrakt
Tato pr´ace se zaby´v´a rol´ı sklonu k riziku na finanˇcn´ıch trz´ıch. V teoretick´e
ˇca´sti autor popisuje pochopen´ı tohoto pojmu, poukazuje na zn´am´e metody a
roli behaviora´ln´ı ekonomie vˇreˇsen´ı tohoto probl´emu. V praktick´eˇc´asti jsou po-
tom vytvoˇreny modely vysvˇetluj´ıc´ı vliv vybrany´ch index˚u na swapy u´vˇerov´eho
selha´n´ı (CDS), kter´e nahrazuj´ı mˇeˇr´ıtko rizika zemˇe pro jednotliv´e rozvinut´e a
rozv´ıjej´ıc´ı se trhy. Svˇetovˇe je zjiˇstˇen silny´ spoleˇcny´ komponent, ktery´ je moˇzno
vysvˇetlitvybrany´miindexy. Jetak´epozorova´no,ˇzevpˇr´ıpadˇerozv´ıjej´ıchsetrh˚u
m˚uˇze GRAI indik´ator hra´t roli, avˇsak pro rozvinut´e trhy tato vlastnost chyb´ı.
Grangerova kauzalita nepotvrzuje vztah vysvˇetluj´ıc´ı funkce GRAI smˇerem k
rizikovosti dany´ch zem´ı.
Klasifikace JEL C51, D80, F40 G12, G15
Kl´ıˇcov´a slova sklon k riziku, averze k riziku, riziko zemˇe,
finanˇcn´ı trhy
E-mail autora [email protected]
E-mail vedouc´ıho pr´ace [email protected]
Contents
List of Tables ix
List of Figures x
Acronyms xi
Thesis Proposal xii
1 Introduction 1
2 Notion 3
2.1 Motivation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
2.2 Concepts of risk . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
2.3 Risk aversion . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
2.4 Risk appetite . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.5 Problems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
3 Survey 11
3.1 Simple methods . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
3.1.1 Safe haven flows . . . . . . . . . . . . . . . . . . . . . . . 11
3.1.2 VIX . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
3.1.3 Market based indices . . . . . . . . . . . . . . . . . . . . 16
3.2 Asset pricing theory . . . . . . . . . . . . . . . . . . . . . . . . 17
3.2.1 Consumption-based model . . . . . . . . . . . . . . . . . 18
3.2.2 CAPM . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
3.2.3 APT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.3 Global Risk Appetite Index . . . . . . . . . . . . . . . . . . . . 24
3.3.1 Original version . . . . . . . . . . . . . . . . . . . . . . . 24
3.3.2 Extensions of GRAI . . . . . . . . . . . . . . . . . . . . 25
3.3.3 Variations of GRAI . . . . . . . . . . . . . . . . . . . . . 28
Contents viii
3.4 Option-implied risk appetite . . . . . . . . . . . . . . . . . . . . 28
3.5 Principal Component Analysis . . . . . . . . . . . . . . . . . . . 31
3.6 Psychological models . . . . . . . . . . . . . . . . . . . . . . . . 33
4 Empirical analysis 35
4.1 The Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
4.1.1 Methodology . . . . . . . . . . . . . . . . . . . . . . . . 35
4.1.2 Former research . . . . . . . . . . . . . . . . . . . . . . . 37
4.1.3 Hypotheses . . . . . . . . . . . . . . . . . . . . . . . . . 38
4.2 Data description . . . . . . . . . . . . . . . . . . . . . . . . . . 38
4.2.1 CDS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
4.2.2 GRAI . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
4.2.3 Other data . . . . . . . . . . . . . . . . . . . . . . . . . 42
4.3 Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42
4.3.1 PCA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42
4.3.2 Econometric analysis . . . . . . . . . . . . . . . . . . . . 43
4.3.3 Granger causality . . . . . . . . . . . . . . . . . . . . . . 45
5 Conclusion 48
Bibliography 52
List of Tables
2.1 Risk overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
2.2 Risk overview (cont’d) – other types . . . . . . . . . . . . . . . 7
4.1 Sign expectation . . . . . . . . . . . . . . . . . . . . . . . . . . 38
4.2 List of countries . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
4.3 Principal components . . . . . . . . . . . . . . . . . . . . . . . . 43
4.4 Regression on the components . . . . . . . . . . . . . . . . . . . 43
4.5 Regression — developed markets . . . . . . . . . . . . . . . . . 44
4.6 Regression — emerging markets . . . . . . . . . . . . . . . . . . 45
4.7 Granger causality . . . . . . . . . . . . . . . . . . . . . . . . . . 46
List of Figures
2.1 Risk appetite concept of Gai and Vause (2006) . . . . . . . . . . 9
3.1 Gold price in USD . . . . . . . . . . . . . . . . . . . . . . . . . 14
3.2 VIX and S&P 500) . . . . . . . . . . . . . . . . . . . . . . . . . 15
3.3 Standard CAPM vs. Modified CAPM . . . . . . . . . . . . . . . 21
3.4 Increase of general risk . . . . . . . . . . . . . . . . . . . . . . . 22
3.5 Probabilities distribution – Gai & Vause (2006) . . . . . . . . . 30
3.6 Probabilities distribution – Tarashev et al. (2003) . . . . . . . . 31
3.7 ECB Composite Risk Appetite Index . . . . . . . . . . . . . . . 33
4.1 Examples of CDS spreads. selected groups of countries . . . . . 39
4.2 GRAI plot from April 2009 to March 2013 (daily) . . . . . . . . 41