Editorial
Article Type: Editorial From: Journal of Modelling in Management, Volume 4, Issue 3
This is the second special issue presented in JM2 during its four years of existence. The broad topic of “Modelling in accounting and finance” resulted in five good pieces of academic research work which ranges from modelling performance measures to explain stock market returns, how is new information capitalised in asset values, the use of returns based style analysis to investigate the disappearance of the size premium to the value of European options on a stock paying a discreet dividend and a multi-factor competitive Internet Strategy Evaluation on the basis of search expansion and portal strategies.
Maditinos, Ševic and Theriou investigate the explanatory power of two value-based performance measurement models, Economic Value Added (EVA®)and shareholder value added (SVA), compared to three traditional accounting performance measures like: (earnings per share (EPS), return on investment (ROI)and return on equity (ROE)) in explaining stock market returns in the Athens Stock Exchange (ASE). The paper uses Easton and Harris (1991) formal valuation model and employs both relative and incremental information content approach to examine which performance measure best explains stock market returns; and the explanatory power of the pairwise combinations of one value-based performance measurement model and one traditional accounting performance measure in explaining stock market returns. Relative information content tests reveal that stock market returns are more closely associated with EPS than with EVA®or other performance measures. However, incremental information content tests suggest that the pairwise combination of EVA® with EPS increases significantly the explanatory power in explaining stock market returns.
In a Bayesian approach to asset valuation, investors use the signals conveyed by new information to update their estimates of structural valuation parameters. Standard event-study methodologies assume that the revision in asset value as a function of the realization of the information signal – i.e. the Signal Response Function, or SRF for short – is linear. Such an assumption,however, rests on strong distributional requirements: the informational signal and the prior of the structural parameter driving firm value are both normally distributed.
In their paper, Guedes and Andrade e Silva examine the impact of new information on asset values when the underlying distributions are not normal. Specifically, they study how kurtosis influences the shape of SRF. Two key results emerge from the analysis:
- 1.
When the information signal is sampled from a distribution with fat tails and the prior of the structural valuation parameter is a normal distribution,the SRF has an S-shape in the local region centred around the zero-surprise level of the signal.
- 2.
Conversely, when the signal is sampled from a normal distribution and the prior of the structural valuation parameter is a fat-tailed distribution, the SRF has an inverted S-shape in the local region centred around the zero surprise level of the signal.
The purpose of Sawicki’s study is to investigate explanations for the behaviour of the size premium using measures of large and small stock holdings of mutual funds. Returns-based style analysis is used to measure asset class exposure by regressing equity fund returns on asset class returns. The coefficients estimate portfolio asset allocation indicating a fund’s investment styles. These patterns are consistent with pricing pressure that would lead to the initial undervaluation and subsequent overvaluation driving returns to small stocks over the period.
This study introduces the application of the returns-based style analysis methodology to studying an asset-pricing phenomenon and demonstrates important insights that can be obtained from the use of this methodology in new contexts and at an aggregate level.
In the context of the Black-Scholes economy and with a no-arbitrage argument,Amaro de Matos, Dilão and Ferreira derive arbitrarily accurate lower and upper bounds for the value of European options on a stock paying a discreet dividend. Setting the option price error below the smallest monetary unity, both bounds coincide and they obtain the exact value of the option.
The final article by Paxson and Melmane uses a multi-factor competitive real option model to examine both search engine leadership and internet portal synergy strategies in an (almost) duopoly world where the players hold non-proprietary options to invest under uncertainty. The expansion strategy covers further investment in search engine algorithms and content. The portal synergy strategy involves irreversible investments in order to create “integrated”internet portal facilities. Both strategies focus on keeping potential customers within a “net” of company owned web sites in order to generate increased revenue.
The model considers stochastic net revenue and stochastic investment as inputs, and uses closed form solutions for the investment timing and valuation. The focus then is based on the significant sensitivities of triggers and values to changes in parameter values. The authors show the effect on investment values of changes in estimated market shares from possible cross-entry synergies. Finally, they conduct a Monte Carlo simulation assuming mean reversion in net revenue drift and volatility, reflecting the possible current “fad”aspects of such internet businesses. They also suggest some innovative data sources and methodology, and compare market valuation with conventional accounting, deterministic and stochastic measures.
Therefore, this special issue will revitalise your mindworks for particles in accounting and finance, such as, economic value added (EVA) signal response fraction (SRF), returns based style analysis, the Black-Scholes economy and“integrated” internet portal facilities.
I am sure that these topics will maximise the return on your readership investment!.
Many thanks to Professor João Duque for being the Guest Editor and putting together such an excellent issue.
Luiz Moutinho
