Volume 24 Number 2 December 1999

Editor - Robert Marks

Prices, Options and Capacities

Three of the four papers published in this issue of the Journal examine behaviour seen on markets for equity (stock markets) or their derivatives, Share Futures Index (SFI) and options on the SFI contract. The fourth compares a management accounting view of the operation of the firm with an economics view of the firm, and reveals that the managerial accounting view is wrong.

Heaney and Hooper are interested in the influences on equity market returns in the Asia-Pacific, specifically markets in the Asia Pacific Economic Co-operation (APEC), some of which are also members of the Association of South East Asian Nations (ASEAN). The countries are Australia, Hong Kong, Indonesia, Japan, South Korea, Malaysia, New Zealand, the Philippines, Taiwan, and Thailand. The growth of equity markets in emerging and recently emerged economies has been accompanied by the fall of barriers to investment and in-flows of portfolio investment (via equity markets rather than directly to specific projects). Apart from the importance for raising capital in these countries, such markets have been of interest to investors in developed countries because of their low correlation with equity markets in developed economies. To what extent have returns on such markets been affected by world influences, by regional influences (through blocs such as APEC and ASEAN), and by political risk? Heaney and Hooper find that world and regional influences are significant, but that political risk appears not to be influential. Moreover, as a country's economy becomes more open, there is a greater covariability between that nation's equity market and a world market portfolio. They conclude that emerging equity market returns may be captured more effectively by multi-index models that incorporate a regional factor.

The development of new markets (financial markets for futures; markets for electricity; markets for tradeable emissions permits; and markets for options and other derivatives of all of the above) has been a spur to the development of market design. Indeed, there are new journals devoted wholly or partly to examining these issues: theoretically, empirically, and using computer simulations - the Journal of Economics and Management Strategy and Economic Design. One issue of concern in design, as well as in subsequent regulation, of new markets is the degree of linkage between markets, say, for equities and for futures. There are several issues: how fast is new information incorporated into price: 'price discovery', and how do different markets react to new information? The expectation is that prices respond sufficiently fast in both markets to preclude the possibility of excess returns. Turkington and Walsh examine data from the Australian Stock Exchange (the All-Ordinaries Index with electronic trading) at the Sydney Futures Exchange (the Share Price Index - then with open outcry trading). They find that there is strong bi-directional causality between the AOI and the SPI, with the response from one to the other taking up to sixty minutes, whereas the response of either market to an external shock takes only five to fifteen minutes. But all is not symmetric: a shock from the AOI may result in a movement of the SPI of up to 2.5 times, whereas a shock in the opposite direction will result on average in a movement of only 7.5% of the movement on the SPI.

Options are a form of derivative, of increasing use around the world, as firms explore new means of managing risk. Daily 'margining' of the options traded in futures at the SFE means that the standard option pricing model (which won a Nobel Prize in Economic Science for Robert Merton and Myron Scholes in 1997 - Fisher Black, their collaborator, having died before he could share the award) is not applicable. The appropriate model for pricing these options assumes that the volatility of the underlying contract - here, a futures contract - is constant over the life of the option.

Brown imputes the volatility of structure for call and put options being traded on the SPI futures contract at the SFE. Call options are options to buy; put options are options to sell. The 'smile' is a name which arises from the plot of the implied volatility against the 'moneyness' of the call option (whether options are out-of-the-money, at-the-money, or in-the-money; that is, whether the spot price is below the striking price, equal to the striking price or above the striking price, which is the agreed fee for the owner of the call to exercise his or her option to buy). Since the stock market crash of 1987, the previously symmetric 'smile' has become more of a skewed 'sneer', reflecting, Brown concludes, a market belief of the greater likelihood of a downwards price movement than an upwards movement, since implied volatilities can be viewed as prices reflecting the willingness of market participants to take on and lay off the risks involved in trading volatilities (and other unpriced risks).

The final paper contrasts the managerial accounting view that firms operate at full physical capacity, and so cannot meet increases in demand, thus forgoing otherwise profitable business with the finance/economics view that firms operate at the point which maximises their profit, which means the level of output which minimises average cost (or, for firms with market power, at even lower levels of output), thus retaining excess capacity, perhaps at higher average and marginal costs of production. Black and Gallagher present the results of a study of Australian manufacturing firms which supports the latter view.

The E. Yetton Award for 1998 and Other Matters

Because of the delay in publication of the December 1998 and June 1999 issues (see my commentary in the editorial for the December issue for reasons for this), the E. Yetton Award for 1998 is announced in this issue. The E. Yetton Award was made possible by a previous editor of the Journal, Philip Yetton, in memory of his father. It is presented to the authors of the best paper published in the previous volume, as judged by the Associate Editors at the time. Volume Twenty-Three included thirteen papers, four of which received votes as the best paper, and another four received votes as runner-up, which shows a gratifying level of excellence across papers. But the first and runner-up papers were clearly separated from the pack. The winner was Robert Brooks, Robert Faff, and Michael McKenzie (1998). The award will be presented in person in December. The runner-up was Philip Brown and Raymond da Silva Rosa (1998); a paper by Philip Brown was best paper in 1995, so the first Dean and Director of the Australian Graduate School of Management (1975-1980) continues to produce excellent research. (For a list with links to all of the winning and running-up papers over the four years of the Award, see the Web page, http://www.agsm.edu.au/eajm.) Chris Sauer was the inaugural Editor in the emerging area of Information Technology Management, having been an Associate Editor since 1995. Chris has recently left Australia to return to the UK (Templeton College, Oxford), and indicated that he thought this an appropriate time to pass on the ITM baton (although the Sydney Olympics are still ten months away, sporting metaphors are hard to escape). I have great pleasure in announcing that Graham Pervan, Professor of Information Systems at Curtin University, has agreed to become the new Associate Editor in ITM. This marks the first time in the Journal's twenty-three year history that a majority of the Associate Editors have been non-AGSM people. Thank you, Chris, and welcome, Graham.

In August 1999, the electronic Journal (eAJM) was chosen as the ANBAR Management Cool Site of the Month, as reflected in the logo at the foot of the eAJM home page. Although gratified by the eAJM's success in garnering such accolades (following the Links2Go gong in May 1999), I must admit a certain bemusement: we gain 'recognition' and the awarding organisations gain another link (from our home page to theirs). Who gains more? Just what do the awards mean? As the Web matures as a new medium, answers to these questions may become clearer. At the moment, I would refer the interested reader to Shapiro and Varian (1999).

A final note. On 1 July 2000, the Australian Government will institute a goods-and-services tax, our very own value-added tax, which will for the first time impose a tax on the Journal. We have decided to bear this impost for the December 2000, issue without raising prices, but for the calendar year 2001 subscriptions will rise, to absorb the GST and other cost increases.


ANBAR Electronic Intelligence, http://www.anbar.co.uk

Brooks, R.D., Faff, R.W., and McKenzie, M.D. 1998, 'Time-varying beta risk of Australian industry portfolios: a comparison of modelling techniques', Australian Journal of Management, vol. 23, no. 1, pp. 1-22.

Brown, P. & da Silva Rosa, R. 1998, 'Research method and the long-run performance of acquiring firms', Australian Journal of Management, vol. 23, no. 1, pp. 23-38.

eAJM, http://www.agsm.edu.au/eajm

The Nobel Foundation Website, http://www.nobel.se

Shapiro, C. & Varian, H.R. 1999, Information Rules: A Strategic Guide to the Network Economy, Harvard Business School Press, Boston.

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