Contributions published at Financial Economics (Thorsten Hens)

In this paper, we document the realization and analysis of an experiment designed by Fehr et al. [2010] which studies the role of different types of authorities in improving coordination within small groups. We find that in a minimum coordination game without communication, adding an authority that recommends contributions significantly improves coordination. The existence of an authority is more important than the bindingness of recommendations. On average, democratically elected authorities do not perform as well as random authorities regardless of their degree of formal power. Formality via the endowment of a dismissal mechanism is generally used to enforce recommendations, but only democratic authorities also use it for the purpose of prevention or personal amusement, which constitutes an abuse of power. An explanation for these results is that there can be a relatively large probability of dissatisfaction from election results in small groups. Subjects show a strong preference for authorities with a low degree of risk aversion, who as a consequence choose large initial contributions in the minimum coordination game despite maximal uncertainty. As an authority, the first recommendation made as well as trust and trustworthiness is crucial for the quality of future coordination.

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How does the optimal risk exposure of assets change as their investment horizons increase? Does this impact investment portfolio decision-making, in particular, optimal asset allocation between value and growth strategies over various investment horizons? This paper adopts a new approach to address these questions by examining portfolio allocation between value and growth stocks over various investment horizons. This new approach is based on wavelet analysis, which decomposes the returns of a particular investment strategy across multiple investment horizons. The key empirical results show that the success of pursuing the value strategy (short-selling growth stocks and going long on value stocks) is impacted by the approach used to classify value and growth stock returns. We explore two common alternatives: Fama-French versus Standard & Poor's (S&P) 500/Barra portfolios. The results using Fama–French portfolios show that as the investment horizon increases, the optimal mean allocation of investors tilts heavily away from growth stocks, particularly for lower and moderate levels of risk aversion. Interestingly, for S&P 500/Barra portfolios the allocation weights between value and growth do not vary much.

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An den Finanzmärkten kommt es laufend zu Über- und Unterreaktionen. Daraus zieht Profit, wer zwischen Megaschocks und Megatrends unterscheiden kann.

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This study investigates reference-dependent choice with a stochastic, state-dependent reference point. The optimal reference-dependent solution equals the optimal consumption solution (no loss aversion) if the reference point is selected fully endogenously. Given that loss aversion is widespread, we conclude that the reference point generally includes an important exogenously fixed component. We develop a choice model in which adjustment costs can cause stickiness relative to an initial, exogenous reference point. Using historical U.S. investment benchmark data, we show that this model is consistent with diversification across bonds and stocks for a wide range of evaluation horizons, despite the historically high-risk premium of stocks compared to bonds.

We explain the currency carry trade (CT) performance using an asset pricing model in which factor loadings are regime dependent rather than constant. Empirical results show that a typical CT strategy has much higher exposure to the stock market and is mean reverting in regimes of high foreign exchange volatility. The findings are robust to various extensions. Our regime-dependent pricing model provides significantly smaller pricing errors than a traditional model. Thus, the CT performance is better explained by a time-varying systematic risk that increases in volatile markets, suggesting a partial resolution of the uncovered interest parity puzzle.

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