Modeling International Asset Markets

Abstract

The three papers that comprise my dissertation study international asset markets. The first paper “What Do We Learn from the Price of Crude Oil Futures?” shows that, despite their widespread use, oil futures prices are less accurate in the mean-squared error sense than no-change forecasts. This result is driven by the variability of the futures price about the spot price, as captured by the oil futures spread. This variability can be explained by the marginal convenience yield of oil inventories. Using a model of the spot and futures markets for crude oil, I show that increased uncertainty about future oil supply shortfalls causes the spread to decline. Empirical analysis of this indicator provides independent evidence of how shifts in the uncertainty about future oil supply shortfalls affect the spot price of crude oil. The second paper “Did Adhering to the Gold Standard Reduce the Cost of Capital?” uses a unique data set of all the stocks and sovereign bonds traded on the London Stock Exchange between 1870 and 1907 to study the effect of adhering to a fixed exchange rate regime on borrowing costs. Conditional on British business-cycle risk, there is no evidence that a portfolio of assets issued by countries off gold earned higher excess returns than a portfolio of assets issued by countries on gold. The returns to both stocks and bonds issued by countries on and off gold are statistically identical. More broadly, this paper provides evidence that the exchange rate regime mattered less for borrowing costs than previously thought. The third paper “How Important is Liquidity Risk for Sovereign Bond Risk Premia?” uses the London Stock Exchange data to study the relationship between sovereign bond risk premia and liquidity risk. This paper establishes that market liquidity is an economically important and statistically significant risk that affects sovereign borrowing costs. Illiquid sovereign bonds yield 3-4% more per year than liquid sovereign bonds on a risk-adjusted basis and the contribution of liquidity risk to the sovereign bond risk premium is economically large: The liquidity premium is comparable in magnitude to the premium associated with business-cycle risk.