Striking the Balance: Life Insurance Timing and Asset Allocation in Financial Planning ArXiv ID: 2312.02943 “View on arXiv” Authors: Unknown Abstract This paper investigates the consumption and investment decisions of an individual facing uncertain lifespan and stochastic labor income within a Black-Scholes market framework. A key aspect of our study involves the agent’s option to choose when to acquire life insurance for bequest purposes. We examine two scenarios: one with a fixed bequest amount and another with a controlled bequest amount. Applying duality theory and addressing free-boundary problems, we analytically solve both cases, and provide explicit expressions for value functions and optimal strategies in both cases. In the first scenario, where the bequest amount is fixed, distinct outcomes emerge based on different levels of risk aversion parameter $γ$: (i) the optimal time for life insurance purchase occurs when the agent’s wealth surpasses a critical threshold if $γ\in (0,1)$, or (ii) life insurance should be acquired immediately if $γ>1$. In contrast, in the second scenario with a controlled bequest amount, regardless of $γ$ values, immediate life insurance purchase proves to be optimal. Finally, we extend the analysis to consider a scenario in which the individual earmarks part of her initial wealth for inheritance, where a critical wealth threshold consistently emerges. ...

Copula-based deviation measure of cointegrated financial assets ArXiv ID: 2312.02081 “View on arXiv” Authors: Unknown Abstract This study outlines a comprehensive methodology utilizing copulas to discern inconsistencies in the behavior exhibited by pairs of financial assets. It introduces a robust approach to establishing the interrelationship between the returns of these assets, exploring potential measures of dependence among the stochastic variables represented by these returns. Special emphasis is placed on scrutinizing the traditional measure of dependence, namely the correlation coefficient, delineating its limitations. Furthermore, the study articulates an alternative methodology that offers enhanced stability and informativeness in appraising the relationship between financial instrument returns. ...

Optimal dividend payout with path-dependent drawdown constraint ArXiv ID: 2312.01668 “View on arXiv” Authors: Unknown Abstract This paper studies an optimal dividend problem with a drawdown constraint in a Brownian motion model, requiring the dividend payout rate to remain above a fixed proportion of its historical maximum. This leads to a path-dependent stochastic control problem, as the admissible control depends on its own past values. The associated Hamilton-Jacobi-Bellman (HJB) equation is a novel two-dimensional variational inequality with a gradient constraint, a type of problem previously only analyzed in the literature using viscosity solution techniques. In contrast, this paper employs delicate PDE methods to establish the existence of a strong solution. This stronger regularity allows us to explicitly characterize an optimal feedback control strategy, expressed in terms of two free boundaries and the running maximum surplus process. Furthermore, we derive key properties of the value function and the free boundaries, including boundedness and continuity. Numerical examples are provided to verify the theoretical results and to offer new financial insights. ...

Rough volatility: evidence from range volatility estimators ArXiv ID: 2312.01426 “View on arXiv” Authors: Unknown Abstract In Gatheral et al. 2018, first posted in 2014, volatility is characterized by fractional behavior with a Hurst exponent $H < 0.5$, challenging traditional views of volatility dynamics. Gatheral et al. demonstrated this using realized volatility measurements. Our study extends this analysis by employing range-based proxies to confirm their findings across a broader dataset and non-standard assets. Notably, we address the concern that rough volatility might be an artifact of microstructure noise in high-frequency return data. Our results reveal that log-volatility, estimated via range-based methods, behaves akin to fractional Brownian motion with an even lower $H$, below $0.1$. We also affirm the efficacy of the rough fractional stochastic volatility model (RFSV), finding that its predictive capability surpasses that of AR, HAR, and GARCH models in most scenarios. This work substantiates the intrinsic nature of rough volatility, independent of the microstructure noise often present in high-frequency financial data. ...

Decentralized Finance: Protocols, Risks, and Governance ArXiv ID: 2312.01018 “View on arXiv” Authors: Unknown Abstract Financial markets are undergoing an unprecedented transformation. Technological advances have brought major improvements to the operations of financial services. While these advances promote improved accessibility and convenience, traditional finance shortcomings like lack of transparency and moral hazard frictions continue to plague centralized platforms, imposing societal costs. In this paper, we argue how these shortcomings and frictions are being mitigated by the decentralized finance (DeFi) ecosystem. We delve into the workings of smart contracts, the backbone of DeFi transactions, with an emphasis on those underpinning token exchange and lending services. We highlight the pros and cons of the novel form of decentralized governance introduced via the ownership of governance tokens. Despite its potential, the current DeFi infrastructure introduces operational risks to users, which we segment into five primary categories: consensus mechanisms, protocol, oracle, frontrunning, and systemic risks. We conclude by emphasizing the need for future research to focus on the scalability of existing blockchains, the improved design and interoperability of DeFi protocols, and the rigorous auditing of smart contracts. ...

Insider trading in discrete time Kyle games ArXiv ID: 2312.00904 “View on arXiv” Authors: Unknown Abstract We present a new discrete time version of Kyle’s (1985) classic model of insider trading, formulated as a generalised extensive form game. The model has three kinds of traders: an insider, random noise traders, and a market maker. The insider aims to exploit her informational advantage and maximise expected profits while the market maker observes the total order flow and sets prices accordingly. First, we show how the multi-period model with finitely many pure strategies can be reduced to a (static) social system in the sense of Debreu (1952) and prove the existence of a sequential Kyle equilibrium, following Kreps and Wilson (1982). This works for any probability distribution with finite support of the noise trader’s demand and the true value, and for any finite information flow of the insider. In contrast to Kyle (1985) with normal distributions, equilibria exist in general only in mixed strategies and not in pure strategies. In the single-period model we establish bounds for the insider’s strategy in equilibrium. Finally, we prove the existence of an equilibrium for the game with a continuum of actions, by considering an approximating sequence of games with finitely many actions. Because of the lack of compactness of the set of measurable price functions, standard infinite-dimensional fixed point theorems are not applicable. ...

Can AI Detect Wash Trading? Evidence from NFTs ArXiv ID: 2311.18717 “View on arXiv” Authors: Unknown Abstract Existing studies on crypto wash trading often use indirect statistical methods or leaked private data, both with inherent limitations. This paper leverages public on-chain NFT data for a more direct and granular estimation. Analyzing three major exchanges, we find that ~38% (30-40%) of trades and ~60% (25-95%) of traded value likely involve manipulation, with significant variation across exchanges. This direct evidence enables a critical reassessment of existing indirect methods, identifying roundedness-based regressions à la Cong et al. (2023) as most promising, though still error-prone in the NFT setting. To address this, we develop an AI-based estimator that integrates these regressions in a machine learning framework, significantly reducing both exchange- and trade-level estimation errors in NFT markets (and beyond). ...

Investigate The ESG Score Methodology ArXiv ID: 2312.00202 “View on arXiv” Authors: Unknown Abstract Whether the Refinitiv provide a reliable and trusted methodology in the process of aggregating 10 category scores to overall score? Keywords: Credit Scoring, Methodology Validation, Refinitiv, Data Aggregation, Financial Ratings, Fixed Income / Credit Complexity vs Empirical Score Math Complexity: 1.0/10 Empirical Rigor: 2.0/10 Quadrant: Philosophers Why: The paper focuses on conceptual critique and literature review of ESG methodologies without advanced mathematical derivations, and it lacks code, backtests, or datasets, indicating low empirical rigor. flowchart TD A["Research Goal:<br>Validate Refinitiv ESG Score Methodology"] --> B{"Key Methodology Steps"} B --> C["Data Input:<br>10 Category ESG Metrics"] B --> D["Data Input:<br>Industry-Specific Weightings"] C --> E["Computational Process:<br>Normalization & Scoring"] D --> E E --> F["Computational Process:<br>Weighted Aggregation"] F --> G["Outcome:<br>Overall ESG Score (0-100)"] F --> H["Outcome:<br>Score Reliability & Methodology Assessment"]

The two square root laws of market impact and the role of sophisticated market participants ArXiv ID: 2311.18283 “View on arXiv” Authors: Unknown Abstract The goal of this paper is to disentangle the roles of volume and of participation rate in the price response of the market to a sequence of transactions. To do so, we are inspired the methodology introduced in arXiv:1402.1288, arXiv:1805.07134 where price dynamics are derived from order flow dynamics using no arbitrage assumptions. We extend this approach by taking into account a sophisticated market participant having superior abilities to analyse market dynamics. Our results lead to the recovery of two square root laws: (i) For a given participation rate, during the execution of a metaorder, the market impact evolves in a square root manner with respect to the cumulated traded volume. (ii) For a given executed volume $Q$, the market impact is proportional to $\sqrtγ$, where $γ$ denotes the participation rate, for $γ$ large enough. Smaller participation rates induce a more linear dependence of the market impact in the participation rate. ...

Market Misconduct in Decentralized Finance (DeFi): Analysis, Regulatory Challenges and Policy Implications ArXiv ID: 2311.17715 “View on arXiv” Authors: Unknown Abstract Technological advancement drives financial innovation, reshaping the traditional finance landscape and redefining user-market interactions. The rise of blockchain and Decentralized Finance (DeFi) underscores this intertwined evolution of technology and finance. While DeFi has introduced exciting opportunities, it has also exposed the ecosystem to new forms of market misconduct. This paper aims to bridge the academic and regulatory gaps by addressing key research questions about market misconduct in DeFi. We begin by discussing how blockchain technology can potentially enable the emergence of novel forms of market misconduct. We then offer a comprehensive definition and taxonomy for understanding DeFi market misconduct. Through comparative analysis and empirical measurements, we examine the novel forms of misconduct in DeFi, shedding light on their characteristics and social impact. Subsequently, we investigate the challenges of building a tailored regulatory framework for DeFi. We identify key areas where existing regulatory frameworks may need enhancement. Finally, we discuss potential approaches that bring DeFi into the regulatory perimeter. ...