Regulators have embraced the idea of pre‐arranging bank recapitalizations through (funded or unfunded) contingent capital issuance. Contingent capital is intended to be triggered when a bank is headed toward failure to provide an automatic equity injection that keeps the bank out of distress. This note discusses counterparty risk, effectiveness, moral hazard, contagion and systemic risk, as well as death‐spiral issues arising from the hedging strategies of the investors. We pay attention to important design issues with respect to the trigger and conversion ratio and comment on their pricing from an equity and credit derivative perspective.

Because monetary policy is constrained in fixed exchange rate regimes, banks should expect fewer money‐financed bailouts and therefore manage their risks more carefully when exchange rates are fixed than when they are flexible. It follows that we should observe fewer banking crises in countries with formal currency pegs. The 1990s however are littered with occurrences of banking crises in countries with fixed exchange rates. This paper asks whether banks in those countries could have adopted excess risk expecting money‐financed bailouts or whether their pegs discouraged such moral hazard‐type risks.

The examination for the possible existence of predictive power in the moving average trading rule has been used extensively to test the hypothesis of weak form market efficiency in capital markets. This work focuses mainly on the study of the variation of the moving average (MA) trading rule performance as a function of the length of the longer MA. Empirical analysis of daily data from NYSE and the Athens Stock Exchange reveal high variability of the performance of the MA trading rule as a function of the MA length and on some occasions the series of successive trading rule total returns is non‐stationary. These findings have direct implications in weak form market efficiency testing. Indeed, given this high variability of the performance of the MA trading rule, by just finding out that trading rules with some specific combinations of MA lengths can or cannot beat the market, as is the case in most of the published work thus far, is not enough evidence for or against the existence of weak form market efficiency. Results also show that on average in about three out of four cases trading rule signals are false, a fact that leaves a lot of space for improved trading rule performance if trading rule signals are combined with other information (e.g. filters, or volume of trade). Finally, some evidence of enhanced trading rule performance for the shorter MA lengths was found. This enhanced performance is partly attributed to the higher probability that a trading rule signal is not a whipsaw, as well as to the larger number of days out‐of‐the‐market which are associated with shorter MA lengths.

It is common practice in financial derivative valuation to use a discount factor based on the riskless debt rate. But, to what extent is this discount factor appropriate for cash flows emerging in capital budgeting? To answer this question, we introduce a framework for real asset valuation that considers both personal and corporate taxation. We first discuss broad circumstances under which personal taxes do not affect valuation. We show that the appropriate discount rate for equity‐financed flows in a risk‐neutral setting is an equity rate that differs from the riskless debt rate by a tax wedge due to the presence of personal taxation. We extend this result to the valuation of the interest tax shield for exogenous debt policy with default risk. Interest tax shields, which accrue at a net rate corresponding to the difference between the corporate tax rate and a tax rate related to the personal tax rates, can have either positive or negative values. We also provide an illustrative real options application of our valuation approach to the case of an option to delay investment in a project, showing that the application of Black and Scholes formula may be incorrect in presence of personal taxes.

We examine the stock market reaction to 1227 inter‐corporate ordinary business contract announcements reported by Dow Jones between January 1, 1990 and December 31, 2001. Around contract announcement dates, we find statistically significant positive average abnormal returns and abnormal trading volume for contractors, but insignificant positive abnormal returns and negative abnormal volume for contractees. Cross‐sectionally, contract announcement period returns are higher for contractors who are small relative to the contract size, have higher return volatility, larger market‐to‐book ratios and higher profitability. The announcement period returns of contract‐awarding firms are not significant and are only marginally related to cross‐sectional explanatory factors. The results are consistent with two explanatory stories: contractor quasi‐rents induced by the winner's curse and information signalling about contractor production costs. The results are not consistent with perfect competition, with contracts having positive net present values for both parties, and with a version of incomplete contracting theory.

By stating a coherent set of conditions under which financing decisions do not affect the value of the firm, Modigliani and Miller’s (1958) work represents a crucial step in the development of a scientific understanding of corporate finance. Cooley and Quadrini’s paper ‘Financial Markets and Firm Dynamics’ (2001) has played an important role in generating renewed research interest among macroeconomists in the effects of departures from the world of Modigliani and Miller on firm and industry dynamics. As such, their paper has proven to be an extremely valuable contribution to the research community. In this note we concentrate on Cooley and Quadrini’s treatment of risky corporate debt pricing and, by making use of Merton’s (1974) model, we demonstrate that their model allows for arbitrage opportunities to arise in financial markets. Finally, re-establishing no-arbitrage, firm dynamics in relation to firm size and age move in the opposite direction to Cooley and Quadrini’s.

This paper examines the impact of stock market fluctuations on money demand in Italy from a long‐run perspective. The money demand function estimated by Muscatelli and Spinelli (2000) for a long time span is utilized as a benchmark, adding to the specification information on share prices from the Milan Stock Exchange Reform of 1913 to recent years. For a shorter time period (1938–2003), annual observations on stock market capitalization and turnover velocity are also considered. The empirical findings suggest that stock market fluctuations help to explain temporary movements in liquidity preference, rather than its secular patterns. Overall, a positive association emerges between an index of stock market prices that includes dividends and real money balances; however, the estimated long‐run relationship is unstable. In a dynamic, short‐term specification of money demand, the estimated coefficient of deflated stock prices is positive, and therefore compatible with a wealth effect, in the years 1913–1980, while in the last two decades a substitution effect has prevailed and the correlation between money and share prices has been negative. This is likely to reflect a change in financial structure and the increasing role of opportunity costs defined over a wider range of assets. These results are confirmed by data on stock market capitalization. Moreover, in the recent period, stock market turnover and money growth are positively correlated.