Encyclopedia of Finance

The Editors

Cheng-Few Lee, Rutgers University, USA

Alice C. Lee, San Franscisco State University, USA

ADVISORY BOARD

James R. Barth, Auburn University and Milken Institute, USA

Ivan Brick, Rutgers University, USA

Wayne Ferson, Boston College, USA

Joseph E. Finnerty, Universty of Illinois, USA

Martin J. Gruber, New York University, USA

George Kaufman, Layola University, USA

John Kose, New York University, USA

Robert A. Schwartz, City University of New York, USA

Encyclopedia of Finance

Edited by

CHENG-FEW LEE Rutgers University

and

ALICE C. LEE San Francisco State University

~Springer

Library of Congress Cataloging-in-Publication Data

Encyclopedia of finance I edited by Cheng-Few Lee and Alice C. Lee p.cm.

Includes bibliographical references and index.

ISBN 978-0-387-26284-0 ISBN 978-0-387-26336-6 (eBook) DOI 10.1007/978-0-387-26336-6

1. Finance-Encyclopedias. I. Lee, Cheng F. II. Lee, Alice C.

HG151.E625 2006 332'.03-dc22

© 2006 Springer Science+ Business Media, Inc.

2005049962

All rights reserved. This work may not be translated or copied in whole or in part without the written permission of the publisher (Springer Science+ Business Media, Inc., 233 Spring Street, New York, NY 10013, USA), except for brief excerpts in connection with reviews or scholarly analysis. Use in connection with any form of information storage and retrieval, electronic adaptation, computer software, or by similar or dissimilar methodology now known or hereafter developed is forbidden. The use in this publication of trade names, trademarks, service marks and similar terms, even if they are not identified as such, is not to be taken as an expression of opinion as to whether or not they are subject to proprietary rights

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ABOUT THE EDITORS

Cheng-Few Lee is a Distinguished Professor of Finance at Rutgers Busi-ness School, Rutgers University and was chairperson of the Department of Finance from 1988-1995. He has also served on the faculty of the University of Illinois (IBE Professor of Finance) and the University of Georgia. He has maintained academic and consulting ties in Taiwan, Hong Kong, China and the United States for the past three decades. He has been a consultant to many prominent groups including, the American Insurance Group, the World Bank, the United Nations and The Marmon Group Inc., etc.

Professor Lee founded the Review of Quantitative Finance and Accounting (RQFA) in 1990 and the Review of Pacific Basin Financial Markets and Policies (RPBFMP) in 1998, and serves as managing editor for both journals. He was also a co-editor of the Financial Review (1985-1991) and the Quarterly Review of Economics and Business (1987-1989).

In the past thirty-two years, Dr. Lee has written numerous textbooks ranging in subject matter from financial management to corporate finance, security analysis and portfolio management to financial analysis, planning and forecasting, and business statistics. Dr. Lee has also pub-lished more than 170 articles in more than twenty different journals in finance, accounting, economics, statistics, and management. Professor Lee has been ranked the most published finance professor worldwide during 1953-2002.

Alice C. Lee is an Assistant Professor of Finance at San Francisco State University. She has a diverse background, which includes engineering, sales, and management consulting. Her primary areas of teaching and research are corporate finance and financial institutions. She is coauthor of Statistics for Business and Financial Economics, 2e (with Cheng-Few Lee and John C. Lee) and Financial Analysis, Planning and Forecasting, 2e (with Cheng-Few Lee and John C. Lee, forthcoming in 2006). In addition, she has co-edited other annual publications including Advances in Investment Analysis and Portfolio Management (with Cheng-Few Lee).

TABLE OF CONTENTS

PREFACE ................................................ Xlll LIST OF CONTRIBUTORS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xv

PARTI:TERMINOLOGY ANDESSAYS .................... 1 Cheng-Few Lee, Rutgers University, USA Alice C. Lee, San Francisco State University, USA

PART II: PAPERS . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . .. .. . . . . . . . 297

1. Deposit Insurance Schemes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 299 James R. Barth, Auburn University and Milken Institute, USA Cindy Lee, China Trust Bank, USA Triphon Phumiwasana, Milken Institute, USA

2. Gramm-Leach-Bliley Act: Creating a New Bank for a New Millennium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 307 James R. Barth, Auburn University and Milken Institute, USA JohnS. Jahera, Auburn University, USA

3. Comparative Analysis of Zero-coupon and Coupon-pre-funded Bonds .................................................. 314 A. Linda Beyer, Alaska Supply Chain Integrators, USA Ken Hung, National Dong Hwa University, Taiwan Suresh C. Srivatava, University of Alaska Anchorage, USA

4. Intertemporal Risk and Currency Risk ....................... 324 low-Ran Chang, National Tsing Hua University, Taiwan Mao- Wei Hung, National Taiwan University, Taiwan

5. Credit Derivatives ........................................ 336 REN-RA W CHEN, Rutgers University, USA Jing-Zhi Huang, Penn State University, USA

6. International Parity Conditions and Market Risk . . . . . . . . . . . . . . 344 Thomas C. Chiang, Drexel University, USA

7. Treasury Inflation-Indexed Securities ........................ 359 Quentin C. Chu, University of Memphis, USA Deborah N. Pittman, Rhodes College, USA

Vlll TABLE OF CONTENTS

8. Asset Pricing Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 364 Wayne E. Ferson, Boston College, USA

9. Conditional Asset Pricing ................................ 376 Wayne E. Ferson, Boston College, USA

10. Conditional Performance Evaluation ....................... 384 Wayne E. Ferson, Boston College, USA

11. Working Capital and Cash Flow .......................... 393 Joseph E. Finnerty, University of Illinois, USA

12. Evaluating Fund Performance within the Stochastic Discount Factor Framework . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 405 J. Jonathan Fletcher, University of Strathclyde, UK

13. Duration Analysis and Its Applications . . . . . . . . . . . . . . . . . . . . . 415 !raj J. Fooladi, Dalhousie University, Canada Gady Jacoby, University of Manitoba, Canada Gordon S. Roberts, York University, Canada

14. Loan Contract Terms ................................... 428 Aron A. Gottesman, Pace University, USA

15. ChineseAandBShares ................................. 435 Yan He, Indiana University Southeast, USA

16. Decimal Trading in the U.S. Stock Markets . . . . . . . . . . . . . . . . 439 Yan He, Indiana University Southeast, USA

17. The 1997 Nasdaq Trading Rules .......................... 443 Yan He, Indiana University Southeast, USA

18. Reincorporation ........................................ 447 Randall A. Heron, Indiana University, USA Wilbur G. Lewellen, Purdue University, USA

19. Mean Variance Portfolio Allocation ....................... 457 Cheng Hsiao, University of Southern California, USA Shin-Huei Wang, University of Southern California, USA

20. Online Trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 464 Chang-Tseh Hsieh, University of South Mississippi, USA

TABLE OF CONTENTS

21. A Note on the Relationship among the Portfolio Performance Indices under Rank Transformation ........................ 470 Ken Hung, National Dong Hwa University, Taiwan Chin- Wei Yang, Clarion University, USA Dwight B. Means, Jr., Consultant, USA

22. Corporate Failure: Definitions, Methods, and Failure Prediction Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 77 Jenifer Piesse, University of London, UK and University of Stellenbosch, South Africa Cheng-Few Lee, National Chiao Tung University, Taiwan and Rutgers University, USA Hsien-chang Kuo, National Chi-Nan University and Takming College, Taiwan Lin Lin, National Chi-Nan University, Taiwan

23. Risk Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 491 Thomas S. Y. Ho, Thomas Ho Company, Ltd., USA Sang Bin Lee, Hanyang University, Korea

24. Term Structure: Interest Rate Models ...................... 501 Thomas S. Y. Ho, Thomas Ho Company, Ltd., USA Sang Bin Lee, Hanyang University, Korea

25. Review of REIT and MBS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 512 Cheng-Few Lee, National Chiao Tung University, Taiwan and Rutgers University, USA Chiuling Lu, Yuan Ze University, Taiwan

26. Experimental Economics and the Theory of Finance . . . . . . . . . . 520 Haim Levy, Hebrew University, Israel

27. Merger and Acquisition: Definitions, Motives, and Market Responses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 541 Jenifer Piesse, University of London, UK and University of Stellenbosch, South Africa Cheng-Few Lee, National Chiao Tung University, Taiwan and Rutgers University, USA Lin Lin, National Chi-Nan University, Taiwan Hsien-Chang Kuo, National Chi-Nan University and Takming College, Taiwan

ix

X TABLE OF CONTENTS

28 .. Multistage Compund Real Options: Theory and Application ... 555 William T. Lin, Tamkang University, Taiwan Cheng-Few Lee, National Chiao Tung University, Taiwan and Rutgers University, USA Chang- Wen Duan, Tamkang University, Taiwan

29. Market Efficiency Hypothesis ............................ 585 Melody Lo, University of Southern Mississippi, USA

30. The Microstructure/Micro-finance Approach to Exchange Rates 591 Melody Lo, University of Southern Mississippi, USA

31. Arbitrage and Market Frictions ........................... 596 Shashidhar Murthy, Rutgers University, USA

32. Fundamental Tradeoffs in the Publicly Traded Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 604 Joseph P. Ogden, University at Buffalo, USA

33. The Mexican Peso Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 610 Fai-N an Perng, The Central Bank of China, Taiwan

34. Portfolio Performance Evaluation . . . . . . . . . . . . . . . . . . . . . . . . . 617 Lalith P. Samarakoon, University of St. Thomas, USA Tanweer Hasan, Roosevelt University, USA

35. Call Auction Trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 623 Robert A. Schwartz, Baruch College, USA Reto Francioni, Swiss Stock Exchange, Switzerland

36. Market Liquidity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 630 Robert A. Schwartz, City University of New York, USA Lin Peng, City University of New York, USA

37. Market Makers .................. : . .................... 634 Robert A. Schwartz, City University of New York, USA Lin Peng, City University of New York, USA

38. Structure of Securities Markets . . . . . . . . . . . . . . . . . . . . . . . . . . . 638 Robert A. Schwartz, City University of New York, USA Lin Peng, City University of New York, USA

39. Accounting Scandals and Implications for Directors: Lessons from Enron . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 643

TABLE OF CONTENTS

Pearl Tan, Nanyang Technology University, Singapore Gillian Yeo, Nanyang Technology University, Singapore

40. Agent-Based Models of Financial Markets . . . . . . . . . . . . . . . . . . 649 Nicholas S. P. Tay, University of San Francisco, USA

41. The Asian Bond Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 655 Khairy Tourk, Illinois Institute of Technology, USA

42. Cross-Border Mergers and Acquisitions ..................... 664 Geraldo M. Vasoncellos, Lehigh University, USA Richard J. Kish, Lehigh University, USA

43. Jump Diffusion Model ................................... 676 Shiu-Huei Wang, University of Southern California, USA

44. Networks, Nodes, and Priority Rules ....................... 689 Daniel G. Weaver, Rutgers University, USA

45. The Momentum Trading Strategy . . . . . . . . . . . . . . . . . . . . . . . . . 700 K. C. John Wei, Hong Kong University of Science and Technology, Hong Kong

46. Equilibrium Credit Rationing and Monetary Non Neutrality in a Small Open Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 705 Ying Wu, Salisbury University, USA

47. Policy Coordination between Wages and Exchange Rates in Singapore . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 715 Ying Wu, Salisbury University, USA

48. The Le Chatelier Principle of the Captial Market Equilibruim ............................................ 724 Chin- Wei Yang, Clarion University of Pennsylvania, USA Ken Hung, National Dong Hwa University, Taiwan John A. Fox, The Fox Consultant Incorporated, USA

49. MBS Valuation and Prepayments .......................... 729 C. H. Ted Hong, BeyondBond Inc., USA Wen-Ching Wang, Robeco Investment Management, USA

50. The Impacts of IMF Bailouts in International Debt Crises 7 44 Zhaohui Zhang, Long Island University, USA Khondkar E. Karim, Rochester Institute of Technology, USA

XI

Xll TABLE OF CONTENTS

PART III: APPENDIX ..................................... 751 Cheng-Few Lee, Rutgers University, USA Alice C. Lee, San Francisco State University, USA

APPENDIX A. Derivation of Dividend Discount Model .......... 753 APPENDIX B. Derivation of DOL, DFL AND DCL . . . . . . . . . . . . 755 APPENDIX C. Derivation of Crossover Rate ................... 757 APPENDIX D. Capital Budgeting Decision with Different Lives ... 759 APPENDIX E. Derivation of Minimum-Variance Portfolio ....... 761 APPENDIX F. Derivation of an Optimal weight Portfolio using

the Sharpe Performance Measure ............... 763 APPENDIX G. Applications of the Binomial Distribution

to Evaluate Call Options ...................... 767

PART IV: REFERENCES .................................. 773

PART V: INDEX .......................................... 815

Subject Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 817 Author Index .............................................. 843

PREFACE

Finance has become one of the most important and popular subjects in management school today. This subject has progressed tremendously in the last forty years, integrating models and ideas from other areas such as physics, statistics, and accounting. The financial markets have also rap-idly expanded and changed extensively with improved technology and the ever changing regulatory and social environment. For example, there has been a rapid expansion of financial concepts, instruments, and tools due to increased computing power and seemingly instantaneous information sharing through networks. The internationalization of businesses and economies will continue to impact the field of finance. With all this progress and expansion in finance and society, we thought that it would be useful to put together an updated comprehensive encyclopedia as a reference book for both students and professionals, in an attempt to meet the demand for a key source of fundamental finance terminology and concepts.

This Encyclopedia of Finance contains five parts. Part I includes finance terminology and short essays. Part II includes fifty important finance papers by well know scholars and practitioners such as; James R. Barth, Ren-Raw Chen, Thomas C. Chiang, Quentin C. Chu, Wayne E. Person, Joseph E. Finnerty, Thomas S.Y. Ho, C.H. Ted Hong, Cheng Hsiao, Jing-Zhi Huang, Mao-wei Hung, John S. Jahera Jr, Haim Levy, Wilbur G. Lewellen, Joseph P. Ogden, Fai-Nan Peng, Gordon S. Roberts, Robert A. Schwartz, K.C. John Wei, and Gillian Yeo, among others. Topics covered in both Part I and Part II include fundamental subjects such as financial management, corporate finance, investment analysis and portfolio management, options and futures, financial institutions, international finance, and real estate finance. Part III contains appendi-ces which discuss and derive some fundamental finance concepts and models; Part IV lists references; and Part V provides both subject and author indexes.

Fifty papers included in Part II can be classified as eight groups as follows: a) Investment analysis and portfolio management (papers 3, 7, 10, 12,

19, 21, 29, 31, 34, 40, 45, and 48); b) Financial management and corporate finance (papers 11, 18, 22, 26,

27, 28, 32, 39, and 42); c) International finance (papers 4, 6, 15, 30, 33, 41, 42, 47, and 50); d) Microstructure (papers 16, 17, 20, 30, 35, 36, 37, 38, and 44); e) Asset pricing (papers 8, 9, 10, 12, and 34);

xiv PREFACE

f) Financial Institutions and Markets (papers 1, 2, 13, 24, and 46); g) Derivatives (papers 5, 28, and 43); h) Real estate finance (papers 14, 25, and 49); i) Risk Management (papers 4, 5, 6, 22, 23, 24, and 39).

For both undergraduate and graduate students, this encyclopedia is a good supplementary material for above listed finance courses. In add-ition, this encyclopedia can also be a good supplementary material for financial accounting courses. We believe that this encyclopedia will not only be useful to students but also for professors and practitioners in the field of finance as a reference.

We would like to thank the contributors for willingness to share their expertise and their thoughtful essays in Part II. We would like to thank Ms. Judith L. Pforr and Ms. Candace L. Rosa, of Springer for their coordination and suggestions to this book. Finally, we would also like to express our gratitude to our secretaries Ms. Mei-Lan Luo, Ms. Sue Wang, Ms. Ting Yen, and Ms. Meetu Zalani, for their efforts in helping us pull together this tremendous repository of information.

We hope that the readers will find the encyclopedia to be an invaluable resource.

By Cheng-Few Lee Alice C. Lee

CONTRIBUTORS

James R. Barth, Auburn University and Milken Institute, USA A. Linda Beyer, Alaska Supply Chain Integrators, USA Jow-Ran Chang, National Tsing Hua University, Taiwan Ren-Raw Chen, Rutgers University-New Brunswick, USA Thomas C. Chiang, Drexel University, USA Quentin C. Chu, University of Memphis, USA Chang- Wen Duan, Tamkang University, Taiwan Wayne Ferson, Boston College, USA Joseph E. Finnerty, University of Illinois, USA Jonathan Fletcher, University of Strathclyde, UK !raj J. Fooladi, Dalhousie University, Canada John A. Fox, The Fox Consultant Incorporated, USA Reto Francioni, The Swiss Stock Exchange, Switzerland Aron A. Gottesman, Pace University, USA Tanweer Hasan, Roosevelt University, USA Yan He, Indiana University Southeast, USA Randall A. Heron, Indiana University, USA Thomas S. Y. Ho, Thomas Ho Company, Ltd., USA C.H. Ted Hong, BeyondBond Inc., USA Cheng Hsiao, University of Southern California, USA Chang- Tseh Hsieh, University of South Mississippi, USA Jing-Zhi Huang, Penn State University, USA Ken Hung, National Dong Hwa University, Taiwan Mao- Wei Hung, National Taiwan University, Taiwan Gady Jacoby, University of Manitoba, Canada John S. Jahera Jr, Auburn University, USA Khondkar E. Karim, Rochester Institute of Technology, USA Richard J. Kish, Lehigh University, USA Hsein-Chang Kuo, National Chi-Nan University, Taiwan Alice C. Lee, San Francisco State University, USA Cheng-Few Lee, Rutgers University-New Brunswick, USA Cindy Lee, China Trust Bank, USA Sang Bin Lee, Hanyang University, Korea Haim Levy, Hebrew University, Israel Wilbur G. Lewellen, Purdue University, USA Lin Lin, National Chi-Nan University, Taiwan William T Lin, Tamkang University, Taiwan Melody Lo, University of Southern Mississippi, USA Chiuling Lu, Yuan Ze University, Taiwan Dwight B. Means, Dr. Dwight B. Means Jr. Consultant, USA Shashidhar Murthy, Rutgers University-Camden, USA

xvi CONTRIBUTORS

Joseph P. Ogden, State University of New York at Buffalo, USA Lin Peng, City University of New York, USA Fai-N an Perng, The Central Bank of China, Taiwan Triphon Phumiwasana, Milken Institute, USA Jenifer Piesse, University of London, UK Deborah N. Pittman, Rhodes College, USA Gordon S. Roberts, York University, Canada Lalith P. Samarakoon, University of St. Thomas, USA Robert A. Schwartz, City University of New York, USA Suresh Srivatava, University of Alaska Anchorage, USA Pearl Tan, Nanyang Technology University, Singapore Nicholas S. P. Tay, University of San Francisco, USA Khairy Tourk, Illinois Institute of Technology, USA Geraldo M. Vasoncellos, Lehigh University, USA Shin-Huei Wang, University of Southern California, USA Wen-Ching Wang, Robeco Investment Management, USA Daniel G. Weaver, Rutgers University, USA K. C. John Wei, Hong Kong University of Science and Technology, HK Ying Wu, Salisbury University, USA Chin- Wei Yang, Clarion University of Pennsylvania, USA Gillian Yeo, Nanyang Technology University, Singapore Zhaohui Zhang, Long Island University-C. W Post, USA