Mark Wahrenburg

Contractual Relations between European Vc-Funds and Investors: The Impact of Reputation and Bargaining Power on Contractual Design

The paper explores factors that influence the design of financing contracts between venture capital investors and European venture capital funds. 122 Private Placement Memoranda and 46 Partnership Agreements are investigated in respect to the use of covenant restrictions and compensation schemes. The analysis focuses on the impact of two key factors: the reputation of VC-funds and changes in the overall demand for venture capital services. We find that established funds are more severely restricted by contractual covenants. This contradicts the conventional wisdom which assumes that established market participants care more about their reputation, have less incentive to behave opportunistically and therefore need less covenant restrictions. We also find that managers of established funds are more often obliged to invest own capital alongside with investors money. We interpret this as evidence that established funds have actually less reason to care about their reputation as compared to young funds. One reason for this surprising result could be that managers of established VC funds are older and closer to retirement and therefore put less weight on the effects of their actions on future business opportunities. We also explore the effects of venture capital supply on contract design. Gompers and Lerner (1996) show that VC-funds in the US are able to reduce the number of restrictive covenants in years with high supply of venture capital and interpret this as a result of increased bargaining power by VC-funds. We do not find similar evidence for Europe. Instead, we find that VCfunds receive less base compensation and higher performance related compensation in years with strong capital inflows into the VC industry. This may be interpreted as a signal of overconfidence: Strong investor demand seems to coincide with overoptimistic expectations by fund managers which make them willing to accept higher powered incentive schemes.

The Effect of Option Trading at the DTB on the Underlying Stocks' Return Variance

The effects of option trading at the DTB on the variance of the underlying stocks are examined. We use a new distribution free test being based on the empirical distribution functions. The evidence indicates that stock return variance increased after the introduction of the DTB. This effect can be partly explained by the strong increase in trading volume for option listed stocks. Our results stand in stark contrast to prior studies of both American and European financial markets.

Financial Contracting with Adverse Selection and Moral Hazard

This paper studies the problem of a bank which has to choose a contract offer to an entrepreneur in order to finance a risky investment project. The project outcome depends on the quality of the proposed project and the level of effort that the entrepreneur expends. Both quality and effort are not observable to the bank. Applying the revelation principle, the optimal contract is found by studying mechanisms which induce truthful revelation of the entrepreneur’s information. The optimal contract trades off gains in expected outcome from inducing higher effort against the increasing costs of truthful revelation. It is shown that a combination of debt and equity contracts solves the contracting problem and maximizes the bank’s profit. The bank proposes a menu of different combinations of debt and external equity financing, from which the entrepreneur can choose one.

What Do Market Makers Achieve

Research on the microstructure of securities markets benefits from a large amount of empirical data. Nonetheless, some relevant questions can only be answered with the help of experiments. Growing competition between different stock exchanges raises the general question of finding the most efficient way to organize securities trade. This paper presents results from a large scale experimental market which was designed to compare different market structures with regard to their ability to efficiently process information and to ensure high liquidity. The past years have witnessed a tendency towards fully computerized markets like the German Xetra trading system which offer a continuous double auction trading platform. However, these markets often experience problems in providing a satisfactory level of liquidity. Some stock exchanges tried to cure the lack of liquidity by introducing market makers. For example, the German stock exchange introduced so called designated sponsors into the Neuer Markt segment within Xetra. Their task is to maintain a liquid market by continuously standing ready to buy and sell securities. Other markets like the option trading segment at EUREX rely on multiple competitive market makers as a source of liquidity. Yet it is empirically not clear to what extent the introduction of market makers achieve its intended purpose. The reason is that empirical studies on this issue are often unable to trace differences in liquidity back to the existence of market makers. Any comparison of different real life securities markets suffers from the notorious problem that markets differ in many more dimension than hust in the existence of market makers. It is therefore difficult to argue that any observed liquidity difference is due to market making. Other institutional aspects such as trading volume, minimum tick sizes, information privileges of some market participants etc. may also contribute to differences in market liquidity.

Die Fußball WM-Börse: Konzeption und Durchführung des weltweit größten Börsenexperiments

Mit der WM-Borse entstand zur Fusballweltmeisterschaft 1998 innerhalb von vier Monaten die groste Real-Time-Internetborse der Welt. Das von der Universitat Witten/Herdecke in Kooperation mit dem ZDF entwickelte Konzept ermoglichte den Handel mit fiktiven Fusballaktien vor und wahrend der Spiele. Dabei entwik-kelten sich die uber 50.000 Fusball-Handler spielerisch zu Borsenprofis. Die als Forschungsprojekt konzipierte WM-Borse lieferte eine Fulle von neuen Informationen uber individuelles Handlerverhalten und den Vergleich verschiedener Borsenformen. Das verstandliche Borsenkonzept und die Integration in die WM-Berichterstattung des ZDF erwiesen sich als Eckpfeiler fur den Erfolg der WM-Borse.

Bankinterne versus externe Ratings

Da Banken ab dem Jahr 2007 die Moglichkeit haben, externe oder bankinteme Ratings ihrer Kreditnehmer zur Berechnung der regulatorischen Eigenkapitalunterlegung zu verwenden, nimmt der Begriff Rating mittlerweile eine exponierte Stellung in der Finanzwirtschaft ein.

Risk based equity cost calculation in banking

In the Modigliani-Miller world of perfect capital markets there is no need to manage the idiosyncratic risk of corporations. However, bankruptcy costs, the tax system and agency costs deriving from information asymmetries create a rationale to control the total risk of a bank. The objective of bank risk management thus is to optimize the risk/return position of the bank. Since a bank consists of a portfolio of different and often interdependent risks, this objective can only be achieved by incorporating risk interrelations into the analysis. We propose a practical method how the total risk of a bank including risk interrelations can be determined and how the risk/return situation of individual business units can be evaluated from the total bank perspective. For our analysis we choose a continuous time portfolio model, in which a set of random risk factors drives the bank profit. This specification allows the inclusion of many different bank risks such as interest rate risks, foreign exchange risks, credit risks and risks from derivative products into one unifying framework. The bank profit is modeled using a first order Taylor series approximation of the pricing functions of bank assets and liablities. The total bank risk is expressed in terms of the standard deviation of profits over short periods of time. We then demonstrate how banks with decentralized decision making authority nevertheless can optimize their overall risk/return trade off by using the risk contribution of their business units to the total bank risk as the relevant measure of risk. The optimization of the toal risk position can be easily incorporated into the bank’s accounting system by employing business unit equity costs that are based on their contribution to the total bank risk. The proposed concept provides senior management with a simple tool to allocate the bank’s capital such that the bank’s risk/retum trade off is optimized and to provide business unit managers with incentives to optimize the total bank risk exposure.

Bad Banks — Good Bank Resolution?

ZusammenfassungDer Beitrag beschreibt privatwirtschaftliche und staatHche Erscheinungsformen von Bad Banks und ordnet diese in das Spektrum der bankenrettungsinstrumente ein. Nach einer Diskussion der mit Bad Banks verfolgten Zielsetzungen werden die in der Praxis beobachteten bad bank Varianten verglichen. Der Fokus liegt dabei auf den im Zuge der Finanzmarktkrise in Deutschland und uSA umgesetzten bad bank Lösungen. Mit Hilfe eines einfachen Modells wird untersucht, welchen beitrag bad banks zur Lösung der als «Moral Hazard» bekannten Tendenz zur Übernahme exzessiver Risiken durch insolvenzgefährdete banken leisten.AbstractThe paper explains different forms of appearances of bad banks and their role in the context of bank rescue instruments. After discussing objectives of bad banks the paper compares the bad bank variants that were implemented during the concurrent financial crisis in the US and Germany. A simple model is used to analyze the ability of bad banks to limit moral hazard behavior of distressed banks, i.e. tendency of banks to invest into excessively risky projects.

Evaluating Credit Risk Models

The problem how to evaluate and monitor the quality of credit risk models has recently received much attention. The discussions about the inclusion of internal models in the Basel Capital Accord highlight this fact. Basel II does not allow the use of full-scale credit portfolio risk models for regulatory capital calculation because regulators are concerned that model quality cannot be validated accurately enough. However, banks are allowed to use internal credit rating systems although it is by far not clear how accurately their quality may be evaluated. This paper discusses the current state-of-the-art concerning methods and empirical results for validating both credit portfolio risk models and internal credit rating systems. In order to allow for a meaningful assessment of the scope and limits of model validation we closely follow and compare our results to the existing literature on validating market risk models.