Riskiness Of Investment Research Articles

Credit default swaps and risk-shifting

Credit default swaps (CDSs) are thought to ease borrowing by protecting lenders against default. This paper develops a model of the demand for CDS when borrowers choose the riskiness of investment and verification is imperfect. The model shows that CDSs may lead to risk-shifting, increasing the probability of default. Our model provides new insights into the role of CDS during the recent financial crisis.

Industry Tournament Incentives

We model and empirically assess industry tournament incentives for CEOs. The measures we develop for the tournament prize derive from the compensation gap between the CEO at her firm and the highest-paid CEO among similar competing firms. The model predicts that firm performance and risk increase in the external pay gap, with these incentive effects increasing in the probability of the executive winning the tournament. GMM-IV estimates indicate that the external, industry pay gap is reliably and positively associated with firm performance and risk and with the riskiness of investment and financial policy. The effect of the industry tournament incentive is stronger when empirical proxies indicate the probability of the executive winning is higher.

Investment Risk Management and Economic Aspects of Transport Infrastructure Development

Investment Risk Management and Economic Aspects of Transport Infrastructure Development The major causes of investment riskiness into transport infrastructure relate to international economy instability, lack of clearly defined and accurate information on the overall processes of international intermodal transportation, absence of objective information due to inconsequent market research as regards interpretation of economic, political and other aspects. Assessment of objective integrated investments into public transport sector as a very specific branch of economy should necessarily be evaluated as multiple indicators affecting different spheres of community, and the final solution should be drawn when all multi-criteria indicators are well appraised. Economy based grounding of the optimal choice from all possible variants when solving specific tasks of the transport sector, depends on the economic expediency of the constructed subject. The main factors of effective usage of investments become apparent in the process of solving the task of road or railway network development optimisation.

Risk Assessment of Investment Strategy in Distributed Energy System under Uncertainty of Fuel and Electricity Prices

This paper discusses investment strategies in distributed energy system consisting of cogeneration system and renewable power generation, under uncertainty in the natural gas and the electricity prices as well as related risk assessment of investment strategies. Although incentives for introducing distributed energy system increase these days, volatile natural gas prices make its investment risky. Therefore, it is important to evaluate the risk under uncertainty and find strategies which reduce the exposure to volatility. We take the real option approach to analyze investment decision. By varying the parameters of prices volatility and correlation between uncertainty of natural gas price with that of electricity price, we find that the optimal investment strategy depends on the level of uncertainty and correlation. When volatility is large and correlation is small, strategies with installation option of small renewable power generation, here, photovoltaic generation, and small cogeneration system become attractive in terms of risk reduction.

Earnings Restatements, Changes in CEO Compensation, and Firm Performance

ABSTRACT: Prior research finds that earnings restatements are linked to CEOs’ excessive option-based compensation and equity holdings. In this paper, we investigate whether firms that experience earnings restatements recontract with their CEOs to reduce their option-based compensation and if so, whether this leads to improved firm performance. Based on 289 restatement firms over the period 1997–2001, we find that the proportion of CEOs’ compensation in the form of options declines significantly in the two years following the restatement. Furthermore, we document that this reduction is accompanied by a decrease in the riskiness of investments, as reflected in lower stock return volatility and subsequent improvements in operating performance. Our results suggest that a decrease in option-based compensation reduces CEOs’ incentives to take excessively risky investments, resulting in improved profitability. Overall, our findings provide insights into the design and efficacy of CEO compensation contracts.

Earnings Restatements, Changes in CEO Compensation, and Firm Performance

Prior research finds that earnings restatements are linked to CEOs' excessive option-based compensation and equity holdings. In this paper, we investigate whether firms that experience earnings restatements recontract with their CEOs to reduce their option-based compensation and if so, whether this leads to improved firm performance. Based on 289 restatement firms over the period 1997-2001, we find that the proportion of CEOs' compensation in the form of options declines significantly in the two years following the restatement. Furthermore, we document that this reduction is accompanied by a decrease in the riskiness of investments, as reflected in lower stock return volatility and subsequent improvements in operating performance. Our results suggest that a decrease in option-based compensation reduces CEOs' incentives to take excessively risky investments, resulting in improved profitability. Overall, our findings provide insights into the design and efficacy of CEO compensation contracts.

Reasonably Certain Estimates, Recognition, and Communication of Uncertainty

This paper presents a model in which asset/liability recognition is a means for a risk-neutral entrepreneur to communicate with risk-averse investors about the riskiness of investments or the uncertainty of future obligations. The model shows that more conservative accounting may produce less conservative investing and lower expected payoffs for the entrepreneur. While the desired uncertainty-based recognition hurdle is increasing in an asset's expected payoff, it is decreasing in a liability's expected magnitude. The impact of further sub-categorization of recognized assets is also considered. While finer classification of assets produces no direct benefit, it may provide a cost-effective means to reduce the entrepreneur's incentives to engage in costly voluntary disclosure.

Economic growth and the riskiness of investment in firm-specific skills

This paper develops a simple growth model in which workers face risks to their firm specific skills, such as far-reaching changes in business and transaction styles or drastic technological innovations, and invest in general skills to prepare for these risks. This model demonstrates that, in the presence of the economy-wide positive externality of general skills, workers’ investment in general skills exhibits a strategic complement, and thus, a low-growth trap may arise. Since a lower risk to firm-specific skills decreases workers’ incentive to invest in general skills, multiple equilibria possibilities and the amount of government subsidies for general skill investment that are required to remove the bad equilibrium increase.

Hurdle-Rate Measurement for Non-U.S. Projects in the Energy Industry(includes associated papers 25287 and 25305 )

Hurdle-Rate Measurement for Non-U.S. Projects in the Energy Industry(includes associated papers 25287 and 25305 )

EXCHANGE RATE SYSTEMS AND INVESTOR PREFERENCES

This paper investigates whether or not floating exchange rates add an undesirable level of risk to international investment positions. For investors holding currencies, we find that fixed exchange rates are preferred to floating exchange rates, which supports the often‐argued case that floating exchange rates do excessively increase the riskiness of investment. However, in the more realistic case of investors holding foreign securities, we find that floating exchange rates are preferred to fixed exchange rates; that is, we find that floating exchange rates have not added an undesirable level of risk to international investment positions.

Stochastic Earnings Functions, Risk, and the Rate of Return to Schooling

It is generally accepted that there is a substantial degree of risk associated with investment in human capital. When the decision to invest is made, uncertainty arises for a variety of reasons. An individual faces uncertainty about the length of life, about the market conditions that will prevail during his or her lifetime, and about the actual returns to investment over the life cycle. One consequence of this uncertainty is that human capital investment will be affected not only by expected returns but also by the riskiness associated with the distribution of anticipated returns. Even though risk is deemed important, empirical specifications of earnings functions typically found in cross-section studies ignore the risk implications of the models [7]. This is an important omission since failing to account for risk considerations may lead to biased estimates of the rate of return to education and may lead to inappropriate conclusions concerning wage discrimination. The purpose of this paper is to investigate the impact of human capital investment on both expected earnings and the variance in earnings, one measure of the riskiness of investment, and to demonstrate the importance of risk and risk aversion in determining the rate of return to schooling. The paper begins by showing that the standard stochastic specification of the earnings function is overly restrictive with respect to risk considerations. In particular, the traditional specification implies that the explanatory variables must have the same qualitative affect on both expected returns and risk. Thus, the standard earnings function can not be used to examine the relation between human capital investment and risk in any meaningful way. Next we examine the risk implications of a more general stochastic earnings function. The specification we use is based on the work of Just and Pope [3] and Griffiths and Anderson [2]. It allows a variable to be either risk increasing or risk reducing independent of its impact on expected returns. Section III contains the empirical results. Using data from the National Longitudinal Surveys, we estimate the generalized earnings function. We find that higher levels of general human capital, as proxied by years of schooling, experience, and I.Q., are positively correlated with the variance in earnings; higher levels of specific human capital, as proxied by job tenure, are nega-

A Semi-Variance Model for Incorporating Risk into Capital Investment Analysis

ABSTRACT Most traditional approaches to capital expenditure analysis have been partially successful in explicitly accounting for risk. A utilitarian model for risk treatment is described in this paper. Specifically, we address two major aspects of the utilitarian approach: (1) the mathematical legitimacy of the underlying utility function with respect to its domain of economic significance and (2) the way “Expectancy-Variance” and “Expectancy-Semivariance” compare as risk/return trade-off criteria. In particular, we have shown how commonly used quadratic utility functions present some theoretical and practical inconveniences from an economic standpoint. Then, a hybrid utility function is introduced as a more legitimate and often more realistic model where semi-variance, rather than variance, is used as a measure of the investment riskiness.