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Three essays on the comovement of financial assets

Anton Sancho, Miguel (2011) Three essays on the comovement of financial assets. PhD thesis, The London School of Economics and Political Science (LSE).

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Abstract

In this thesis I study the effects of institutional trading on the comovementof financial assets. In the first chapter, joint work with Christopher Polk, we connect stocks through common active mutual fund ownership, and use these connections to forecast cross-sectional variation in return covariance, controlling for similarity in style and other pair characteristics. We argue this covariance is due to contagion based on return decomposition evidence, cross-sectional heterogeneity in the extent of the effect, and the magnitude of average abnormal returns to a cross-stock reversal trading strategy exploiting information in these connections. We show that the typical long/short hedge fund covaries negatively with this strategy suggesting that hedge funds may potentially exacerbate the price dislocation we document. In the second chapter I study the sources of change in the systematic risks of stocks added to the S&P 500 index. Firstly, using vector autoregressions (VARs) and a two-beta decomposition, I find that I cannot reject the hypothesis that all of the well-known change in beta comes from the cash-flow news component of a firm's return. Secondly, I study fundamentals of included firms directly to reduce any concerns that the VAR-based results are sensitive to my particular speciffcation. As ownership structure cannot directly influence fundamentals, these results challenge previous findings, as they are consistent with the change in beta being due to a selection effect. In the third chapter, joint work with Daniel Bergstresser, we explore index-based comovement in the market for Credit Default Swaps (CDS). We exploit the additions of individual CDS contracts in the Markit CDX Index, a major credit derivative benchmark. We find that for single name CDS contracts, comovement increases after inclusion in the index. Comparing movements in the CDS spreads to movements of the bonds of the same issuers, the CDS spread comovement increases significantly more than the bond spread comovement. This pattern of evidence is consistent with the excess comovement in equity markets documented by Barberis et al (2005) and others.

Item Type: Thesis (PhD)
Additional Information: © 2012 Miguel Anton Sancho
Library of Congress subject classification: H Social Sciences > HG Finance
Sets: Departments > Finance
Supervisor: Polk, Christopher
URI: http://etheses.lse.ac.uk/id/eprint/502

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