Found 11 article(s) for author 'Risk'

The Hazards of Expert Control: Chief Risk Officers and Risky Derivatives

The Hazards of Expert Control: Chief Risk Officers and Risky Derivatives. Frank Dobbin, May 31, 2017, Paper, “At the turn of the century, regulators introduced policies to control bank risk-taking. Many banks appointed chief risk officers (CROs), yet bank holdings of new, complex, and untested financial derivatives subsequently soared. Why did banks expand use of new derivatives? We suggest that CROs encouraged the rise of new derivatives in two ways. First, we build on institutional arguments about the expert construction of compliance, suggesting that risk experts arrived with an agenda of maximizing risk-adjusted returns, which led them to favor the derivatives. Second, we build on moral licensing arguments to suggest that bank appointment of CROs induced “organizational licensing,” leading trading-desk managers to reduce policing of their own risky behavior.Link

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The Rise of Risky Derivatives: Chief Risk Officers, CEOs, and Fund Managers

The Rise of Risky Derivatives: Chief Risk Officers, CEOs, and Fund Managers. Frank Dobbin, November 18, 2016, Paper, “At turn of the century, regulators introduced policies to control bank risk-taking. Many banks appointed chief risk officers (CROs), yet bank holdings of new, complex and untested financial derivatives subsequently soared. Institutionalists suggest that firms respond to regulations by appointing compliance experts, who sometimes exaggerate legal requirements. We propose a more nuanced institutional theory of expert interests, and highlight effects of other powerful groups. Rather than overstating what the law required, risk experts sought to cement their role in shareholder-value management with compliance strategies that they also marketed as maximizing risk-adjusted returns.Link

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Have big banks gotten safer?

Have big banks gotten safer? Lawrence Summers, September 15, 2016, Paper, “Since the financial crisis, there have been major changes in the regulation of large financial institutions directed at reducing their risk. Measures of regulatory capital have substantially increased; leverage ratios have been reduced; and stress testing has sought to further assure safety by raising levels of capital and reducing risk taking. Standard financial theories would predict that such changes would lead to substantial declines in financial market measures of risk. For major institutions in the United States and around the world and midsized institutions in the United States, we test this proposition using information on stock price volatility, option-based estimates of future volatility, beta, credit default swaps, earnings-price ratios, and preferred stock yields.Link

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Does Aggregated Returns Disclosure Increase Portfolio Risk Taking?

Does Aggregated Returns Disclosure Increase Portfolio Risk Taking? David Laibson, Brigitte Madrian, August 11, 2016, Paper, “Many experiments have found that participants take more investment risk if they see returns less frequently, see portfolio-level returns (rather than each individual asset’s returns), or see long-horizon (rather than one-year) historical return distributions. In contrast, we find that such information aggregation treatments do not affect total equity investment when we make the investment environment more realistic than in prior experiments. Previously documented aggregation effects are not robust to changes in the risky asset’s return distribution or the introduction of a multi-day delay between portfolio choice and return realization.Link

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The Chief Risk Officer as Trojan Horse: How Sarbanes-Oxley Promoted the Abuse of Risky Derivatives

The Chief Risk Officer as Trojan Horse: How Sarbanes-Oxley Promoted the Abuse of Risky Derivatives. Frank Dobbin, 2016, Paper. “In the wake of the Enron, Worldcom, and Tyco scandals, Congress passed the Sarbanes-Oxley Act of 2002 to restrain corporate risk, malfeasance, and fraud. Many commercial banks responded by appointing chief risk officers to manage compliance. But risk managers entered their new positions with a professional agenda to maximize riskadjusted returns. The agenda, we predict, led chief risk officers to promote reliance on riskier derivatives. We also predict that others with the power to direct firm strategy responded by championing or restraining risk-taking, depending on their interests. Fund managers and CEOs with large, illiquid stakes in a bank restrained the chief risk officer, while CEOs dependent on bonuses endorsed riskier strategies. We test these ideas with data on 157 large commercial banks between 1995 and 2010. We contribute to institutional theory’s understanding of the professions in two ways …” Link

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Extrapolation and Bubbles

Extrapolation and Bubbles. Robin Greenwood, Andrei Shleifer, September 2015, Paper, “We present an extrapolative model of bubbles. In the model, many investors form their demand for a risky asset by weighing two signals—an average of the asset’s past price changes and the asset’s degree of overvaluation. The two signals are in conflict, and investors “waver” over time in the relative weight they put on them. The model predicts that good news about fundamentals can trigger large price bubbles. We analyze the patterns of cash-flow news that generate the largest bubbles, the reasons why bubbles collapse, and the frequency with which they occur. The model also predicts that bubbles will be accompanied by high trading volume, and that volume increases with past asset returns. We present empirical evidence that bears on some of the model’s distinctive predictions.Link

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The Risk Anomaly Tradeoff of Leverage

The Risk Anomaly Tradeoff of Leverage. Malcolm Baker, December 14, 2014, Paper. “The “low risk anomaly” refers to the empirical pattern that apparently high-risk equities do not earn commensurately high returns. In this paper, we consider the possibility that the risk anomaly represents mispricing, not a misspecification of risk, and develop the implications for corporate capital structure. The risk anomaly generates a simple tradeoff model: Starting at zero leverage, the overall cost of capital initially falls as leverage increases equity risk. As debt becomes risky, however, the marginal benefit of increasing equity risk declines. The optimum is reached at lower leverage for firms with high asset risk. Consistent with a risk anomaly tradeoff, firms with low-risk assets choose higher leverage. In addition, leverage is inversely related to systematic risk, holding constant total risk; a large number of firms maintain small or zero leverage despite high marginal tax rates; and many others maintain high leverage despite little tax benefit.Link

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Dynamic Loss Aversion, Growth, and Development

Dynamic Loss Aversion, Growth, and Development, Michael Kremer, October 2014,Paper, We build a prospect-theoretic model to explain several stylized facts in the development literature. Agents get reference-dependent utility from the income generated by their assets, and are more a ected by losses than by gains. Such agents may underinvest in novel or risky assets, leading to unexploited opportunities for high marginal returns, while simultaneously maintaining high holdings of low-return assets that they have owned in the past. There is a range of possible steady-state asset allocations, depending on past ownership, in contrast to conventional models of poverty traps. The provision of insurance against catastrophic loss will have a larger e ect in motivating such agents to invest than it would on agents with classical preferences. We show how credit contract design can partially mitigate under-investment while simultaneouslyencouraging repayment of loans. Link

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SEC’s Non-Decision Decision on Corporate Political Activity a Policy and Political Mistake

SEC’s Non-Decision Decision on Corporate Political Activity a Policy and Political Mistake. John Coates, December 13, 2013, Opinion. “The SEC’s recent decision to take disclosure of political activities off the SEC’s agenda is a policy mistake, as it ignores the best research on the point, described below, and perpetuates a key loophole in the investor-relevant disclosure rules, allowing large companies to omit material information about the politically inflected risks they run with other people’s money. It is also a political mistake, as it repudiates the 600,000+ investors who have written to the SEC personally to ask it to adopt a rule requiring…Link verified March 28, 2014

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Harpooning the London Whale is no Substitute for Reform

Harpooning the London Whale is no Substitute for Reform. Mark Roe, August 15, 2013, Opinion. “And so the drama moves on to a courtroom. Two prime traders in JPMorgan Chase’s “London whale” misadventure have been indicted. Side plots may unfold, perhaps via extradition proceedings. But here is the big question: will the indictments lead to better, stronger financial markets? Well, yes and no. Recall the problem: JPMorgan’s London trading desk made trades that would be profitable if the post-crisis American economy remained weak. As the economy improved, the traders sought to reverse the investments…” Link verified August 15, 2013

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