Levan Efremidze

Sudden stops and currency crises

Purpose - The purpose of this paper is to examine empirical characteristics of two commonly mentioned expressions of international financial crisis, “sudden stops” and currency crises. Design/methodology/approach - Sudden stop and currency crisis events are identified and empirical regularities among them are analyzed based on the annual data of 25 emerging market countries from 1990 to 2003. Findings - Puzzlingly, these two seemingly close expressions of crises overlap less than 50 percent of the time and sudden stops more frequently precede than follow currency crises. Also the two different sudden stop measures are not strongly correlated with each other. Research limitations/implications - This shows that it can make a great deal of difference what measure is used and suggests that studies in this area should be sure to check the robustness of their results to different measures. Practical implications - The authors think that the proper analysis should focus on how to use these different measures to understand the nature of the crises. Thus, sudden stop and currency crisis measures should be used as complements, rather than substitutes. Social implications - The alarming frequency of the emerging market crises during the last three decades has motivated a large volume of theoretical and empirical literature on the subject. The papers results advance understanding of these events. Originality/value - A large body of studies on currency crises coexists with a growing literature on sudden stops yet a majority of the studies that investigate either one of these phenomena do not mention the other. The paper adds value by investigating empirical relationships between them.

Using VIX Entropy Indicators for Style Rotation Timing

In this article, the authors examine the feasibility of market timing between large-capitalization value and growth portfolios with the use of entropy measures as compared with previously tested methods of market timing using stock market volatility (using the CBOE’s Volatility Index, VIX). Including transaction fees, style rotations using entropy measures appear to provide superior risk-adjusted returns and may offer a desirable alternative strategy for risk-averse investors seeking equity exposure.

Stock Market Timing with Entropy

We examine the effectiveness of entropy analytics for stock market timing. The objective behind the study is to develop and facilitate market timing procedure by introducing a relatively untested investment methodology that could be pragmatically utilized in investment management. As an example, we implement sample entropy analysis on the Dubai index series. We find that sample entropy-based trading strategies deliver better risk-adjusted performance than the index buy and hold strategy during the back-testing period, which also included highly volatile market returns.

The Neural Inhibition of Learning Increases Asset Market Bubbles: Experimental Evidence

ABSTRACT The authors tested a leading theory of bubble formation, insufficient learning, in a laboratory asset market using a drug, Naltrexone, which inhibits reinforcement learning. We found that asset price bubbles in Naltrexone sessions were larger compared with placebo sessions, averaging 60% higher in amplitude and 77% larger in the deviation from fundamental value in the final 12-period trading round. There was no difference between conditions in understanding of the trading rules, overconfidence, or confusion. Participants on Naltrexone appeared unable to determine appropriate trading strategies as prices changed. The findings indicate that specific neural mechanism of reinforcement learning is involved in the formation of asset market bubbles.

CAPITAL FLOW SURGES AS BUBBLES: BEHAVIORAL FINANCE AND MCKINNON’S OVER-BORROWING SYNDROME EXTENDED

This paper explores how behavioral finance and complexity economics, along with imperfect information, faulty mental models and perverse incentive structures can cast light on the factors that generate the international capital flow surges and sudden stops that McKinnon described as the over-borrowing syndrome. While there has been a great deal of empirical research on this topic in recent years, there has been much less theoretical analysis of why these flows too often behave in such a volatile manner. Developing a better understanding of the forces driving capital flows should help us identify situations where capital flow surges are particularly likely to end in costly sudden stops and help policy makers decide how best to respond to such flows.

The relationships among capital flow surges, reversals and sudden stops

Purpose - This paper aims to investigate the relationship between capital flow surges, reversals and sudden stops. Design/methodology/approach - Emphasizing the importance of looking at the behavior of domestic as well as foreign capital flows, the authors distinguish sudden stops from capital flow reversals by attributing the former to foreign capital flows only. Findings - It is found that, despite the large differences in the number of surges identified by several different measures in the literature, a majority of surges do end in reversals of some type. The percentages tend to be slightly over half for surges in net capital flows, but on average, 70 per cent of gross surges end in sudden stops. Furthermore, contrary to popular belief, approximately half of sudden stops and net capital flow reversals are not preceded by surges. It is also found that surges that persist longer are more likely to turn into sudden stops and reversals. Research limitations/implications - The authors find substantial empirical differences in the characteristics of sudden stops (based on gross foreign flows) and reversals (based on net flows). Practical implications - Large inflows of financial capital are not always a strong indicator that a country’s economic policies will continue to provide stability in the future. They may signal an increase rather than reduction in the risk of future instability. Originality/value - This study focuses on an issue that has been less explored to date, the relationship between capital flow surges, reversals and sudden stops. The authors distinguish, redefine and document differences among capital flow reversals and sudden stops. Duration of surges is related to the likelihood of having reversals and sudden stops.