Important COVID-19 Message from the Provost

Throughout the pandemic, Baylor’s commitment has been to the health and safety of our family. Since the spring of 2020, the University has chosen to take actions that align with the most up-to-date health recommendations. Guidelines for the Fall 2021 semester include:

  • Everyone is required to wear a mask in classrooms and labs.
  • Everyone who is unvaccinated is required to be tested twice weekly throughout the semester. For more information about Baylor’s testing program, please visit Baylor’s COVID site at www.baylor.edu/coronavirus. To confirm your exemption from this testing, upload your vaccination record to www.baylor.edu/vaccine.
  • Vaccinations are available for students at the Baylor Health Center. Please call 254-710-1010 to make an appointment or https://www.baylor.edu/healthservices/.
  • The symptoms for the Delta variant look very similar to the original COVID symptoms but include headaches, sinus congestion, sore throats, and a runny nose. If you feel sick, please contact the Baylor Health Center to be tested as soon as possible, at 254-710-1010 or https://www.baylor.edu/healthservices.
  • Please have a plan in place in case you get sick with COVID or are asked to isolate or quarantine. Baylor will provide limited assistance, but it is in your best interest to have your own plan in place.

We all want to return to a normal fall semester with more in-person events and traditions; vaccinations and face masks help the entire Baylor community to stay healthy.

Also featured as one of “50 Things That Made the Modern Economy”: The Index Fund

Besides insurance, Tim Harford also features the index fund in his “Fifty Things That Made the Modern Economy” radio and podcast series. This 9-minute long podcast lays out the history of the development of the index fund in particular and the evolution of so-called passive portfolio strategies in general. Much of the content of this podcast is sourced from Vanguard founder Jack Bogle’s September 2011 WSJ article entitled “How the Index Fund Was Born” (available at https://www.wsj.com/articles/SB10001424053111904583204576544681577401622). Here’s the description of this podcast:

“Warren Buffett is the world’s most successful investor. In a letter he wrote to his wife, advising her how to invest after he dies, he offers some clear advice: put almost everything into “a very low-cost S&P 500 index fund”. Index funds passively track the market as a whole by buying a little of everything, rather than trying to beat the market with clever stock picks – the kind of clever stock picks that Warren Buffett himself has been making for more than half a century. Index funds now seem completely natural. But as recently as 1976 they didn’t exist. And, as Tim Harford explains, they have become very important indeed – and not only to Mrs Buffett.”

Warren Buffett is one of the world’s great investors. His advice? Invest in an index fund

Insurance featured as one of “50 Things That Made the Modern Economy”

From November 2016 through October 2017, Financial Times writer Tim Harford presented an economic history documentary radio and podcast series called 50 Things That Made the Modern Economy. This same information is available in book form under the title “Fifty Inventions That Shaped the Modern Economy“. While I recommend listening to the entire series of podcasts (as well as reading the book), I would like to call your attention to Mr. Harford’s episode on the topic of insurance, which I link below. This 9-minute long podcast lays out the history of the development of the various institutions which exist today for the sharing and trading of risk, including markets for financial derivatives as well as for insurance.

“Legally and culturally, there’s a clear distinction between gambling and insurance. Economically, the difference is not so easy to see. Both the gambler and the insurer agree that money will change hands depending on what transpires in some unknowable future. Today the biggest insurance market of all – financial derivatives – blurs the line between insuring and gambling more than ever. Tim Harford tells the story of insurance; an idea as old as gambling but one which is fundamental to the way the modern economy works.”

How to know whether you are on track with Finance 4335 assignments

At any point in time this semester, you can make sure that you are on track with Finance 4335 assignments by monitoring due dates on Canvas and on the course website. Links for future class meetings, quizzes, problem sets, and exams appear on the Canvas “To Do” list. Links for readings (along with their due dates) appear on http://fin4335.garven.com/readings/, and links for problem sets (along with their due dates) appear on http://fin4335.garven.com/problem-sets/. In the case of assigned readings, students are required to complete a short (10-minute) readings quiz prior to the start of class for each reading assignment due date; the window for completing this task begins 24 hours prior to the start of the class meeting for which the reading assignment is due.

On the relationship between the S&P 500 and the CBOE Volatility Index (VIX)

Besides going over the course syllabus during the first day of class on Tuesday, August 24, we will also discuss a particularly important “real world” example of financial risk. Specifically, we will study the relationship between realized daily stock market returns (as measured by daily percentage changes in the SP500 stock market index) and changes in forward-looking investor expectations of stock market volatility (as indicated by daily percentage changes in the CBOE Volatility Index (VIX)):

As indicated by this graph (which also appears in the lecture note for the first day of class), daily percentage changes on closing prices for the SP500 (the y-axis variable) and for the VIX (the x-axis variable) are strongly negatively correlated with each other. The blue dots are based on 7,961 contemporaneous observations of daily returns for both variables, spanning the (more than 30-year) time period from January 2, 1990, through August 5, 2021. When we fit a regression line through this scatter diagram, we obtain the following equation:

{R_{SP500}} = .00064 - .11412{R_{SP500}},

where {R_{SP500}} corresponds to the daily return on the SP500 index and {R_{VIX}} corresponds to the daily return on the VIX index. The slope of this line (-0.11412) indicates that on average, daily realized SP500 returns during this time period were inversely related to contemporaneous daily returns on the VIX; i.e., when forward-looking investor expectations of stock market volatility fell (rose), then the stock market return as indicated by SP500 typically rose (fell). Nearly half of the variation in the stock market return during this time period (specifically, 48.68%) can be statistically “explained” by changes in volatility, and the correlation between {R_{SP500}} and {R_{VIX}} comes out to -0.698. While a correlation of -0.698 does not imply that {R_{SP500}} and {R_{VIX}} always move in opposite directions, it does suggest that this will be the case more often than not. Indeed, closing daily returns on {R_{SP500}} and {R_{VIX}} during this period moved inversely 78.66% of the time.

You can also see how the relationship between the SP500 and VIX evolves prospectively by entering http://finance.yahoo.com/quotes/^GSPC,^VIX into your web browser’s address field.

Calculus and Probability & Statistics recommendations…

Since many of the topics covered in Finance 4335 require a basic knowledge and comfort level with algebra, differential calculus, and probability & statistics, the second class meeting during the Spring 2021 semester will include a mathematics tutorial, and the third and fourth class meetings will cover probability & statistics. I know of no better online resource for brushing up on (or learning for the first time) these topics than the Khan Academy.

So here are my suggestions for Khan Academy videos that cover these topics (unless otherwise noted, all sections included in the links which follow are recommended):

Finally, if your algebra skills are generally a bit on the rusty side, I would also recommend checking out the Khan Academy’s review of algebra.

Course Requirement: Email subscription to the Risk Management Course Blog (instructions given here)

A course blog has been established for Finance 4335 at the address http://risk.garven.com; it is also linked from the “Course Blog” button located on the course website. This resource provides a convenient means for Dr. Garven to distribute important announcements outside of class. Topics covered on the course blog typically include things like changes in the course schedule, clarifications, and hints concerning problem sets, information about upcoming exams, announcements concerning extra credit opportunities, and short blurbs showing how current events relate to many of the topics covered in Finance 4335.

All students enrolled in Finance 4335 are required to subscribe to the course blog via email. Students may also follow the course blog on Facebook or Twitter but are not required to do so.

Email Subscription Instructions:

In order to subscribe to the course blog via email, go to http://risk.garven.com and enter your email address in the form provided on the right-hand side of that webpage:

After clicking “Subscribe”, the following information will appear on the screen:

Next, check for an email from “Risk Management Blog <donotreply@wordpress.com> ”:

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Next, simply click the “Confirm Follow” button. This will cause you to receive the following email:

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From that point forward, whenever I post to the course blog, you will immediately receive a nicely formatted version of the blog posting via email.

Finance 4335 Honor Code – Based on Section III.C.16 of Baylor’s Honor Code Policy and Procedures

It has come to my attention that past problem set and exam solutions for Finance 4335 are available from one or more so-called “course sharing” websites.  These documents were uploaded to these sites without my knowledge or permission and as such, constitute copyright infringement and theft of intellectual property.

According to Section III.C.16 of Baylor’s Honor Code Policy and Procedures, “… using, uploading, downloading, or purchasing any online resource that has been derived from material pertaining to a Baylor course without the written permission of the professor” constitutes dishonorable conduct; i.e., an act of academic dishonesty.  Section IV.A. of this very same document obligates faculty members who suspect that a student has engaged in dishonorable conduct to either handle the matter directly with the student or refer it to the Honor Council.

While students are encouraged to use course-related documents that I distribute in class and on the course website for personal academic purposes, anything other than your personal use of these documents, (including sharing such documents with others who are not enrolled in Finance 4335 or uploading such documents to course-sharing websites) is in violation of Section III.C.16 of Baylor’s Honor Code Policy and Procedures and therefore, expressly forbidden. This policy also applies to the use of course-related documents from any source other than me.