Gregor Dorfleitner

Safety first portfolio choice based on financial and sustainability returns

The aim of this paper is to expand the methodological spectrum of socially responsible investing by introducing stochastic sustainability returns into safety first models for portfolio choice. We provide a foundation of the notion of sustainability in portfolio theory and establish a general model for generalized safety first portfolio management with probabilistic constraints and three specifications of it. Moreover, we prove theorems about conditions for unique optimal solutions and for the constraints of one model being more restrictive than those of another. In an empirical part, we calculate the costs of investing according to our approach in terms of less financial return.

Rounding with multiplier methods: An efficient algorithm and applications in statistics

Ordinary rounding does not always satisfy a summation restriction on the rounding results. This can be resolved by applying multiplier methods, for which we present an easy-to-implement algorithm complemented by remarks on special families of multiplier methods, the arithmetic-mean and power-mean method, and a previously unaddressed family, the geometric-mean methods. Finally, several applications in statistics are pointed out, i.e. rounding percentages in descriptive statistics, rounding optimal designs of experiments, and rounding optimal sample allocations.

What Determines Microcredit Interest Rates

High microcredit interest rates cause fierce debates among practitioners, scholars and even the general public. To objectify these discussions, this article investigates determinants of microcredit interest rates by using a worldwide data set of 712 microfinance institutions (MFIs). We examine how cost factors, gender, regulation, lending methodology and organizational type affect microcredit interest rates. Controlling for other microfinance- and country-specific factors, we identify the operating expenses as the main factor influencing microcredit interest rates. Furthermore, our findings show that MFIs tend to subsidize interest rates charged with income from investments not related to their lending activities.

Why the Return Notion Matters

Returns can be defined as log returns or as simple returns. Whereas on a numerical level the difference between these two terms is small as long as the return values are close to zero, there can be non-negligible differences if we look at expected values and (co)variances in a stochastic context. This paper examines the consequences of mixing up the two return terms when variances and convariances are considered. Three applications show that these consequences can be severe in the sense of suboptimal portfolio selection or invalid betas. The paper argues that more awareness of the suited return term is necessary.

Pricing options with Green's functions when volatility, interest rate and barriers depend on time

We derive the Greens function for the Black–Scholes partial differential equation with time-varying coefficients and time-dependent boundary conditions. We provide a thorough discussion of its implementation within a pricing algorithm that also accommodates American style options. Greeks can be computed as derivatives of the Greens function. Generic handling of arbitrary time-dependent boundary conditions suggests our approach to be used with the pricing of (American) barrier options, although options without barriers can be priced equally well. Numerical results indicate that knowledge of the structure of the Greens function together with the well-developed tools of numerical integration make our approach fast and numerically stable.

Profiling German-speaking socially responsible investors

Purpose - – The purpose of this paper is to analyze the main motives of investors in allocating their money in a socially responsible (SR) way. Design/methodology/approach - – The paper is based on primary data collected in a survey using an online questionnaire. This paper applies tests for continuous and categorical data and (ordered) logit models. Findings - – In a multivariate analysis that investigates determinants of SR investing, this study finds little influence of the demographic factors of gender and investment volume and none of educational level. Furthermore, it shows that the regions investors allocate their money to are significant along with the preference toward the order of return, risk and liquidity. Moreover, there appears to be a gap between supply and demand of SR investments. Additionally, there are indications that a very important inducement for SR investing is the expectation of a high financial performance. Originality/value - – There are very few international studies concerning the link between SR investments and the explanation of preferences with factors other than demographic ones. This study broadens the scope of the literature by providing novel empirical evidence for the German-speaking market.

Underpricing in Chinese IPOs–some recent evidence

This article analyses the initial public offering (IPO) underpricing issue of 237 new A-shares from 2002 to 2004, shortly before the IPO suspension in the Chinese domestic market. The data set comes out with an initial return mean of 88.67%, an average market-adjusted initial return of 89.61% and an average market-adjusted log-return of 59.18%, which are significantly lower than the results of former empirical studies. This downward trend of IPO returns reinforces the explanation that a transition economy reduces its cheap state assets sell-off in line with the maturing of its capital market. Based on the results of correlation and regression analysis, we ascertain that the IPO underpricing is overwhelmingly caused by the excess demand and the generally positive sentiment in Chinas secondary/after-IPO market for new shares, resulting in high trading turnover on the first listing day. This is strengthened by the finding that more initial returns could be generated on the SHSE than on the SZSE, as a result of strong public interest in blue chip IPOs on the SHSE.

Specification Risk and Calibration Effects of a Multifactor Credit Portfolio Model

This article examines a crucial source of specification risk when calibrating a typical industry-type, Merton-based credit portfolio model. It emerges from the necessity of having to choose a proxy for creditworthiness. In addition to equity prices and asset values, which are the classical choices, the authors consider credit default swap (CDS) spreads and expected default frequencies (EDF, from Moody’s KMV) as alternatives. Based on 40 large European companies from different industries, the authors calibrate a macroeconomic factor model with an OLS regression analysis for each specification and calculate the corresponding economic capital. Eighteen macroeconomic and financial variables are considered as risk factors. Their findings are: a) on average, two to three risk factors are needed to adequately model creditworthiness on the obligor level, b) stock market variables are the most important risk factors, c) model-implied credit correlation is extremely sensitive to the choice of the proxy for creditworthiness, and d) only the EDF specification leads to less economic capital compared with regulatory capital, according to Basel II, while it is exceeded substantially by all other specifications. In particular, credit correlation in the CDS specification by far exceeds any estimate mentioned in the literature. Most important, the authors show that the economic capital of their sample portfolio can be reduced by 78%, depending on which variable is chosen as a proxy for creditworthiness.

The influence of the financial crisis on mezzanine financing of European medium-sized businesses – an empirical study

This article focuses on privately placed mezzanine capital as an alternative for medium-sized businesses to pure debt and pure equity financing. We empirically examine the European mezzanine market and analyze typical cost components of mezzanine loans in order to study whether the conditions for mezzanine takers have deteriorated during the financial crisis. We also analyze correlations and changes in correlations between the two interest components of mezzanine loans as well as between the share of senior debt and of subordinated debt. For our investigation, we use a unique data set that includes 1427 mezzanine transactions that were made in Europe from 1982 to 2010.

Capital Allocation and Per-Unit Risk in Inhomogeneousand Stressed Credit Portfolios

This article considers the application of gradient allocation and portfolio optimization to credit portfolios. The assumption of linearity of risk that is implied by the use of gradient allocation is challenged in a setting of inhomogeneity and stress scenarios. To see the effects of mathematically derived portfolio optimization on real-life examples, we consider a number of insightful examples. This challenges mathematical results and enables a financial interpretation of the latter. The results reveal that per-unit risk is not disturbed by moderate inhomogeneity in most cases, whereas a change in portfolio composition as well as stress can influence the portfolio optimization decision significantly. The importance of incorporating sensitivity analysis and stress testing into reporting structures and optimization decisions is emphasized.