Essays in asset price bubbles

This thesis studies the field of asset price bubbles. It is comprised of three independent chapters. Each of these chapters either directly or indirectly analyse the existence or implications of asset price bubbles. The type of bubbles assumed in each of these chapters is consistent with rational expectations. Thus, the kind of price bubbles investigated here are known as rational bubbles in the literature. The following describes the three chapters. Chapter 1: This chapter attempts to explain the recent US housing price bubble by developing a heterogeneous agent endowment economy asset pricing model with risky housing, endogenous collateral and defaults. Investment in housing is subject to an idiosyncratic risk and some mortgages are defaulted in equilibrium. We analytically derive the leverage or the endogenous loan to value ratio. This variable comes from a limited participation constraint in a one period mortgage contract with monitoring costs. Our results show that low values of housing investment risk produces a credit easing effect encouraging excess leverage and generates credit driven rational price bubbles in the housing good. Conversely, high values of housing investment risk produces a credit crunch characterized by tight borrowing constraints, low leverage and low house prices. Furthermore, the leverage ratio was found to be procyclical and the rate of defaults countercyclical consistent with empirical evidence. Chapter 2: It is widely believed that financial assets have considerable persistence and are susceptible to bubbles. However, identification of this persistence and potential bubbles is not straightforward. This chapter tests for price bubbles in the United States housing market accounting for long memory and structural breaks. The intuition is that the presence of long memory negates price bubbles while the presence of breaks could artificially induce bubble behaviour. Hence, we use procedures namely semi-parametric Whittle and parametric ARFIMA procedures that are consistent for a variety of residual biases to estimate the value of the long memory parameter, d, of the log rent-price ratio. We find that the semi-parametric estimation procedures robust to non-normality and heteroskedasticity errors found far more bubble regions than parametric ones. A structural break was identified in the mean and trend of all the series which when accounted for removed bubble behaviour in a number of regions. Importantly, the United States housing market showed evidence for rational bubbles at both the aggregate and regional levels. In the third and final chapter, we attempt to answer the following question: To what extend should individuals participate in the stock market and hold risky assets over their lifecycle? We answer this question by employing a lifecycle consumption-portfolio choice model with housing, labour income and time varying predictable returns where the agents are constrained in the level of their borrowing. We first analytically characterize and then numerically solve for the optimal asset allocation on the risky asset comparing the return predictability case with that of IID returns. We successfully resolve the puzzles and find equity holding and participation rates close to the data. We also find that return predictability substantially alter both the level of risky portfolio allocation and the rate of stock market participation. High factor (dividend-price ratio) realization and high persistence of factor process indicative of stock market bubbles raise the amount of wealth invested in risky assets and the level of stock market participation, respectively. Conversely, rare disasters were found to bring down these rates, the change being severe for investors in the later years of the life-cycle. Furthermore, investors following time varying returns (return predictability) hedged background risks significantly better than the IID ones.

Empirical studies on share issuance and repurchase decisions

Financial constraints influence corporate policies of firms, including both investment decisions and external financing policies. The relevance of this phenomenon has become more pronounced during and after the recent financial crisis in 2007/2008. In addition to raising costs of external financing, the effects of financial crisis limited the availability of external financing which had implications for employment, investment, sale of assets, and tech spending. This thesis provides a comprehensive analysis of the effects of financial constraints on share issuance and repurchases decisions. Financial constraints comprise both internal constraints reflecting the demand for external financing and external financial constraints that relate to the supply of external financing. The study also examines both operating performance and stock market reactions associated with equity issuance methods. The first empirical chapter explores the simultaneous effects of financial constraints and market timing on share issuance decisions. Internal financing constraints limit firms’ ability to issue overvalued equity. On the other hand, financial crisis and low market liquidity (external financial constraints) restrict availability of equity financing and consequently increase the costs of external financing. Therefore, the study explores the extent to which internal and external financing constraints limit market timing of equity issues. This study finds that financial constraints play a significant role in whether firms time their equity issues when the shares are overvalued. The conclusion is that financially constrained firms issue overvalued equity when the external equity market or the general economic conditions are favourable. During recessionary periods, costs of external finance increase such that financially constrained firms are less likely to issue overvalued equity. Only unconstrained firms are more likely to issue overvalued equity even during crisis. Similarly, small firms that need cash flows to finance growth projects are less likely to access external equity financing during period of significant economic recessions. Moreover, constrained firms have low average stock returns compared to unconstrained firms, especially when they issue overvalued equity. The second chapter examines the operating performance and stock returns associated with equity issuance methods. Firms in the UK can issue equity through rights issues, open offers, and private placement. This study argues that alternative equity issuance methods are associated with a different level of operating performance and long-term stock returns. Firms using private placement are associated with poor operating performance. However, rights issues are found empirically to be associated with higher operating performance and less negative long-term stock returns after issuance in comparison to counterpart firms that issue private placements and open offers. Thus, rights issuing firms perform better than open offers and private placement because the favourable operating performance at the time of issuance generates subsequent positive long-run stock price response. Right issuing firms are of better quality and outperform firms that adopt open offers and private placement. In the third empirical chapter, the study explores the levered share repurchase of internally financially unconstrained firms. Unconstrained firms are expected to repurchase their shares using internal funds rather than through external borrowings. However, evidence shows that levered share repurchases are common among unconstrained firms. These firms display this repurchase behaviour when they have bond ratings or investment grade ratings that allow them to obtain cheap external debt financing. It is found that internally financially unconstrained firms borrow to finance their share repurchase when they invest more. Levered repurchase firms are associated with less positive abnormal returns than unlevered repurchase firms. For the levered repurchase sample, high investing firms are associated with more positive long-run abnormal stock returns than low investing firms. It appears the market underreact to the levered repurchase in the short-run regardless of the level of investments. These findings indicate that market reactions reflect both undervaluation and signaling hypotheses of positive information associated with share repurchase. As the firms undertake capital investments, they generate future cash flows, limit the effects of leverage on financial distress and ultimately reduce the risk of the equity capital.

Query routing in cooperative semi-structured peer-to-peer information retrieval networks

Conventional web search engines are centralised in that a single entity crawls and indexes the documents selected for future retrieval, and the relevance models used to determine which documents are relevant to a given user query. As a result, these search engines suffer from several technical drawbacks such as handling scale, timeliness and reliability, in addition to ethical concerns such as commercial manipulation and information censorship. Alleviating the need to rely entirely on a single entity, Peer-to-Peer (P2P) Information Retrieval (IR) has been proposed as a solution, as it distributes the functional components of a web search engine – from crawling and indexing documents, to query processing – across the network of users (or, peers) who use the search engine. This strategy for constructing an IR system poses several efficiency and effectiveness challenges which have been identified in past work. Accordingly, this thesis makes several contributions towards advancing the state of the art in P2P-IR effectiveness by improving the query processing and relevance scoring aspects of a P2P web search. Federated search systems are a form of distributed information retrieval model that route the user’s information need, formulated as a query, to distributed resources and merge the retrieved result lists into a final list. P2P-IR networks are one form of federated search in routing queries and merging result among participating peers. The query is propagated through disseminated nodes to hit the peers that are most likely to contain relevant documents, then the retrieved result lists are merged at different points along the path from the relevant peers to the query initializer (or namely, customer). However, query routing in P2P-IR networks is considered as one of the major challenges and critical part in P2P-IR networks; as the relevant peers might be lost in low-quality peer selection while executing the query routing, and inevitably lead to less effective retrieval results. This motivates this thesis to study and propose query routing techniques to improve retrieval quality in such networks. Cluster-based semi-structured P2P-IR networks exploit the cluster hypothesis to organise the peers into similar semantic clusters where each such semantic cluster is managed by super-peers. In this thesis, I construct three semi-structured P2P-IR models and examine their retrieval effectiveness. I also leverage the cluster centroids at the super-peer level as content representations gathered from cooperative peers to propose a query routing approach called Inverted PeerCluster Index (IPI) that simulates the conventional inverted index of the centralised corpus to organise the statistics of peers’ terms. The results show a competitive retrieval quality in comparison to baseline approaches. Furthermore, I study the applicability of using the conventional Information Retrieval models as peer selection approaches where each peer can be considered as a big document of documents. The experimental evaluation shows comparative and significant results and explains that document retrieval methods are very effective for peer selection that brings back the analogy between documents and peers. Additionally, Learning to Rank (LtR) algorithms are exploited to build a learned classifier for peer ranking at the super-peer level. The experiments show significant results with state-of-the-art resource selection methods and competitive results to corresponding classification-based approaches. Finally, I propose reputation-based query routing approaches that exploit the idea of providing feedback on a specific item in the social community networks and manage it for future decision-making. The system monitors users’ behaviours when they click or download documents from the final ranked list as implicit feedback and mines the given information to build a reputation-based data structure. The data structure is used to score peers and then rank them for query routing. I conduct a set of experiments to cover various scenarios including noisy feedback information (i.e, providing positive feedback on non-relevant documents) to examine the robustness of reputation-based approaches. The empirical evaluation shows significant results in almost all measurement metrics with approximate improvement more than 56% compared to baseline approaches. Thus, based on the results, if one were to choose one technique, reputation-based approaches are clearly the natural choices which also can be deployed on any P2P network.