Essays on High Frequency and Behavioral Finance [Elektronische Ressource] / Omid Rezania. Betreuer: S. T. Rachev

Omid Rezania

Description

Essays on High Frequency and Behavioral Finance Zur Erlangung des akademischen Grades eines Doktors der Wirtschaftswissenschaften (Dr. rer. pol) von der Fakultät für Wirtschaftswissenschaften des Karlsruher Instituts für Technologie Genehmigte DISSERTATION von Omid Rezania Tag der Mündlichen Prüfung : 14 Juli 2011 Referent : Prof. Dr. S. T. Rachev Korreferent: Prof. M. E. Ruckes Karlsruhe, Juli 2011 Table of contents Page Abstract 3 Chapter 1: Introduction to the dissertation 5 Chapter 2: General background and literature review 9 Chapter 3: Effects of economic releases on intraday 38 dynamics of currency market Chapter 4: Behavioral finance analysis of individual and 83 institutional investors during the financial crisis of 2008-2009 Chapter 5: Analysis of behavioral phenomena and intraday 130 investment dynamics of individual investors in currency market Chapter 6: Conclusions of the dissertation 154 Bibliography 160 Appendix 1 Suggestions for further research 173 Appendix 2 Timeline of major events affecting the financial 175 markets from 1 January 2008 to 31 December 2009 2 Abstract This dissertation presents studies on various aspects of intraday high frequency dynamics of financial markets, as well as analysis of certain phenomena in behavioral finance.

Informations

• Publié par: karlsruher_institut_fur_technologie
• Publié le: 01 janvier 2011
• Nombre de lectures: 195
• Langue: English
• Poids de l'ouvrage: 7 Mo

Extrait

Essays on High Frequency and Behavioral Finance
Zur Erlangung des akademischen Grades eines
Doktors der Wirtschaftswissenschaften
(Dr. rer. pol) on der Fakultät fürvWirtschaftswissenschaften
uts für Technologie Institdes Karlsruher Genehmigte TIONADISSERT von a Omid Rezani Tag der Mündlichen Prüfung : 14 Juli 2011
Referent : Prof. Dr. S. T. Rachev
Korreferent: Prof. Dr. M. E. Ruckes
11 20 Juli Karlsruhe,

Table of contents
3 t acAbstr Chapter 1: Introduction to the dissertation
Chapter 2: General background and literature review
Chapter 3: Effects of economic releases on intraday
dynamics of currency market
Chapter 4: Behavioral finance analysis of individual and
institutional investors during the
financial crisis of 2008-2009
Chapter 5: Analysis of behavioral phenomena and intraday
investment dynamics of individual investors
in currency market
Chapter 6: Conclusions of the dissertation
160 aphy riogBibl Appendix 1 Suggestions for further research 173
Appendix 2 Timeline of major events affecting the financial
markets from 1 January 2008 to 31 December 2009
2

2

ePag

5

9

38

83

130

154

175

Abstract This dissertation presents studies on various aspects of intraday high frequency
dynamics of financial markets, as well as analysis of certain phenomena in
behavioral finance. The scope of the research includes currency market as well as
US equity market. I proposed a volatility estimator using wavelets, which: 1) is easily
scalable to various time periods and various frequencies of data; 2) is flexible such
that the researcher can set a threshold for volatility depending on his/her needs; 3) is
statistically more efficient than other traditional volatility estimators; and 4) captures
the underlying dynamics of the data set in as much detail as other volatility
estimators. I used this estimator in 3 contexts:
First, I applied it to second by second foreign exchange executed trade data of 2003-
2007. I quantified the currency market reaction after the release of 18 major US
economic releases on Japanese yen, British pound and euro. I also modeled the
induced volatility, and volatility of volatility subsequent to economic releases. These
findings have potential applications in electronic market making and algorithmic
trading in currency markets.
Secondly, I used the estimator in US equity market and using change point analysis
quantified how individuals and institutions behaved during the financial crisis of 2008-
2009. In order to perform the analysis, I required data on individual investors’ equity
holding at daily frequency, and as such data did not exist, I constructed and used an
indicator which can be used as a proxy for an individual’s holdings at a daily
frequency. Moreover I demonstrated disposition effect in the individual investor
community as a whole by analyzing their market portfolio holding and comparing their
absolute and risk adjusted returns with simulated portfolios.
Lastly, I returned to the currency market to analyze the behavior of individual
investors. I used a number of proprietary data sets of individual and institutional
investors’ currency holdings, including minute by minute data on individuals’ positions
during year 2007. I demonstrated feedback trading and excessive trading
phenomena within individual investor community. I also quantified the likelihood of
occurrence of frequent trades by individual investors during the intraday trading
session. As individuals’ share of trades in financial markets is significant and growing,

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our findings of the aforementioned behavioral phenomena may help researchers and

practitioners better understand the dynamics of these markets.

This doctoral thesis was supervised by Prof. Dr. S. T. Rachev at the Department for

Statistics, Econometrics and Mathematical Finance.

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Chapter 1 ssertationIntroduction to di This dissertation presents studies on various aspects of intraday high frequency
dynamics of financial markets, as well as analysis of certain phenomena in
behavioral finance. The scope of the research includes currency market as well as
US equity market.
In Chapter 2, we provide the general literature review and necessary background for
the subsequent chapters. We cover important issues in dealing with high frequency
data, explain the most important characteristics of intraday dynamics of markets and
provide an introduction to wavelets. We build upon general background offered in
rs. chaptequent in subseChapter 2 In Chapter 3, we use second by second foreign exchange data of 2003-2007, which
has not been analyzed before. The currency market is by far the largest financial
market in the world, and the economic releases have a significant effect on the
intraday dynamics of this market. Given the recent advancements in processing
power, availability of tick data and facilities to execute electronically in the market in a
fraction of a second, there has been increasing interest in intraday dynamics of all
financial markets. Intraday currency market strategies present a fast growing
investment opportunity for global financial institutions. Every year, a larger proportion
of global currency is traded on electronic platforms where investment banks and
others act as market makers. The algorithms which assist banks in market making
(e.g. determining the bid and ask spread at each moment) need to dynamically adjust
to the changing market during the day. Our analysis of volatility in Chapter 3 will
contribute to calibrating such market making models. Moreover our results have
practical applications in automated trading models, which seek to capture the very
short term intraday movements of the market and generate profit. We demonstrate
and quantify the foreign exchange market’s reaction to economic releases. In doing
so, we also propose a novel approach to estimating volatility based on wavelets
which we used in Chapters 3, 4 and 5.

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Our contributions in Chapter 3 include:

 Quantifying the currency market reaction after the release of 18 major US
economic releases on Japanese yen, British pound and euro. We determined
how each currency reacts to each economic release, and determined the
importance of releases for the currency market.
 Conducting a survey of major currency asset managers and chief traders in
major banks and comparing the results of the poll with our findings
 Quantifying the induced volatility, and volatility of volatility subsequent to
economic releases. These findings have potential applications in electronic
market making and algorithmic trading in currency markets.
 Further analysis of intraday dynamics of most liquid currency (EUR/USD)
after the most important economic release (nonfarm payrolls)
 Proposing a volatility estimator using wavelets, which: 1) is easily scalable to
various time periods and various frequencies of data; 2) is flexible such that
the researcher can set a threshold for volatility depending on his/her needs;
3) is significantly more efficient than range volatility estimator (range estimator
is itself the most efficient estimator of volatility compared to other traditional
volatility estimation methods); and 4) captures the underlying dynamics of the
data set in as much detail as other volatility estimators.

In Chapter 4, we first described and later quantified how individuals and institutions
behaved during the financial crisis of 2008-2009. Individual investors hold a
substantial portion of US equity, and understanding the behavior and investment
decision making of individuals is therefore highly important in asset pricing and in
understanding the dynamics of the equity market. In order to perform the analysis,
we required data on individual investors’ equity holding at daily frequency, and as
such data did not exist, we constructed an indicator which can be used as a proxy for
an individual’s holdings at a daily frequency. We used this indicator’s data in our
is.syanal Disposition effect states that individuals keep their losing positions for too long ( i.e.
they are averse to recognizing loss in their portfolio, hence they hold assets which
have been generating losses for too long in the hopes that the market will eventually

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turn in their favor) and sell their winning positions too early.1 In this chapter, we
tested individual investor community for disposition effect.
Our contributions in Chapter 4 include:
 Constructing and proposing an indicator of individual investors’ equity
holdings, which: 1) excludes institutional investors and only includes the
direct holdings of individuals; 2) has a very high correlation with the equity
market and therefore can be reliably used as a proxy of the