# Dr Hardy Hulley

### Biography

I have a Ph.D. in Finance from UTS. My research interests include topics from Financial Economics, Investment Management, Quantitative Finance, Stochastic Control Theory, Optimal Stopping, Stochastic Analysis, and Probability Theory. I teach a range of subjects in the areas of Quantitative Finance, Financial Economics, and Corporate Finance.

**Senior Lecturer,**Finance Discipline Group

**Core Member,**QFRC - Quantitative Finance

Science, B.Sc. (Hons) (UCT), M.Sc. (UCT), Ph.D. (UTS)

**Phone**

+61 2 9514 7754

**ORCID**

### Research Interests

Financial Economics, Investment Management, Quantitative Finance, Stochastic Control Theory, Optimal Stopping, Stochastic Analysis, and Probability Theory

Quantitative Finance, Financial Economics, and Corporate Finace

## Chapters

Hulley, H. & Schweizer, M. 2010, 'M6 - On minimal market models and minimal Martingale measures' in Chiarella, C. & Novikov, A. (eds),

View/Download from: UTS OPUS or Publisher's site

*Contemporary Quantitative Finance: Essays in Honour of Eckhard Platen*, Springer, Germany, pp. 35-51.View/Download from: UTS OPUS or Publisher's site

The well-known absence-of-arbitrage condition NFLVR from the fundamental theorem of asset pricing splits into two conditions, called NA and NUPBR. We give a literature overview of several equivalent reformulations of NUPBR; these include existence of a growth-optimal portfolio, existence of the numeraire portfolio, and for continuous asset prices the structure condition (SC). As a consequence, the minimal market model of E. Platen is seen to be directly linked to the minimal martingale measure. We then show that reciprocals of stochastic exponentials of continuous local martingales are time changes of a squared Bessel process of dimension 4. This directly gives a very specific probabilistic structure for minimal market models.

Hulley, H. 2010, 'The economic plausibility of strict local Martingales in financial modelling' in Chiarella, C. & Novikov, A. (eds),

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*Contemporary Quantitative Finance: Essays in Honour of Eckhard Platen*, Springer, Germany, pp. 53-75.View/Download from: UTS OPUS or Publisher's site

The context for this article is a continuous financial market consisting of a risk-free savings account and a single non-dividend-paying risky security. We present two concrete models for this market, in which strict local martingales play decisive roles. The first admits an equivalent risk-neutral probability measure under which the discounted price of the risky security is a strict local martingale, while the second model does not even admit an equivalent risk-neutral probability measure, since the putative density process for such a measure is itself a strict local martingale. We highlight a number of apparent anomalies associated with both models that may offend the sensibilities of the classically-educated reader. However, we also demonstrate that these issues are easily resolved if one thinks economically about the models in the right way. In particular, we argue that there is nothing inherently objectionable about either model.

## Conferences

Glover, K. & Hulley, H. 2011, 'The limits of arbitrage and the term structure of stock index futures mispricing', Fourth International Conference on Mathematics in Finance, Berg-en-Dal, Kruger National Park, South Africa.

Hulley, H. 2011, 'The impact of idiosyncratic risk on mutual fund fees and performance', Fourth International Conference on Mathematics in Finance, Berg-en-Dal, Kruger National Park, South Africa.

Hulley, H. 2011, 'The impact of idiosyncratic risk on mutual fund fees and performance', Quantitative Methods in Finance 2011 Conference, Sydney Australia.

Hulley, H. & Platen, E. 2008, 'A visual criterion for identifying Ito diffusions as martingales or strict local martingales',

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*Seminar on Stochastic Analysis, Random Fields and Applications VI*, Seminar on Stochastic Processes, Random Fields and Applications, Springer, Ascona, Switzerland, pp. 147-157.View/Download from: UTS OPUS

It is often important, in applications of stochastic calculus to financial modelling, to know whether a given local martingale is a martingale or a strict local martingale. We address this problem in the context of a time-homogenous diffusion process with a finite lower boundary, presented as the solution of a driftless stochastic differential equation. Our main theorem demonstrates that the question of whether or not this process is a martingale may be decided simply by examining the slope of a certain increasing function. Further results establish the connection between our theorem and other results in the literature, while a number of examples are provided to illustrate the use of our criterion.

Casavecchia, L. & Hulley, H. 2010, 'The effect of idiosyncratic risk on mutual fund flows and performance', Seminar Presentation, Queensland University of Technology, Brisbane, Australia.

Casavecchia, L. & Hulley, H. 2010, 'The effect of idiosyncratic risk on mutual fund flows and performance', Seminar Presentation, University of Western Australia, Perth, Australia.

Casavecchia, L. & Hulley, H. 2010, 'The effect of idiosyncratic risk on mutual fund flows and performance', Finance and Corporate Governance Conference, Melbourne, Australia.

Hulley, H. 2010, 'Local martingales obtained by discounting', Quantitative Methods in Finance 2010 Conference, Sydney, Australia.

Casavecchia, L. & Hulley, H. 2010, 'The effect of idiosyncratic risk-taking on mutual fund performance and fees',

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*Financial Management Association 2010 Meetings*, Financial Management Association Annual Meeting, Financial Management Association, New York, USA, pp. 1-50.View/Download from: UTS OPUS

We identify for the first time the crucial role played by idiosyncratic risk as a determinant of performance persistence, flow-performance sensitivity and management fees charged to fund shareholders. Using a sample of US equity mutual funds, we show that high idiosyncratic volatility indirectly captures the aggressiveness of fund investment strategies. We document that funds characterized by high idiosyncratic risk exhibit high probabilities of transitioning into the tails of the performance distribution. In particular, these high transition probabilities in performance cause funds characterized by high idiosyncratic risk to jump more frequently from one tail of the performance distribution to the other, making them appear as if they do not significantly underperform as opposed to funds with low levels of idiosyncratic risk. Consistent with the model of Berk and Green (2004), we argue that idiosyncratic risk is a confusing factor and significantly compromises investors ability to clearly quantify managerial skills. Since investors learn about managerial abilities from past returns and chase performance accordingly, we should expect high noise in performance to reduce the precision of investors priors about these abilities. As a result, in the presence of switching costs and search costs, investors may optimally choose to wait to receive a better signal before (re-) allocating their capital. We document in fact that the sensitivity of flows to performance significantly and monotonically plunges for those funds engaging in high idiosyncratic risk, irrespective of their performance rankings.

Casavecchia, L. & Hulley, H. 2009, 'The fee-performance relationship does not demand unsophisticated investors', Seminar Presentation, University of Queensland Business School, Brisbane, Australia.

Thorp, S.J., Hulley, H., McKibbin, R. & Pedersen, A. 2009, 'Means-tested income support, portfolio choice and decumulation in retirement', 17th Australian Colloquium of Superannuation Researchers, Sydney, Australia.

Thorp, S.J., Hulley, H., McKibbin, R. & Pedersen, A. 2009, 'Means-tested income support, portfolio choice and decumulation in retirement', Seminar Presentation, School of Economics, Australian National University, Canberra, Australia.

Hulley, H. 2009, 'The economic plausibility of strict local martingales in financial modelling', Quantitative Methods in Finance 2009 Conference, Sydney, Australia.

Hulley, H. 2008, 'A Chapman-Kolmogorov algorithm for barrier options with moving barriers', Third International Conference on Mathematics in Finance, Kruger National Park, South Africa.

Hulley, H. 2008, 'Conditions for Martingales, with Applications in Finance', Quantitative Methods in Finance 2008 Conference, Sydney, Australia.

Hulley, H. & Platen, E. 2007, 'Laplace transform identities for diffusions, with applications to rebates and barrier options',

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*Banach Centre Publications: Advances in Mathematics of Finance*, General AMaMeF Conference and Banach Centre Conference, Polska Akademia Nauk, Bedlewo, Poland, pp. 139-157.View/Download from: UTS OPUS

Using a simple integral identity, we derive general expressions for the Laplace transform of the transition density of the process, if killing or reflecting boundaries are specified. We also obtain a number of useful expressions for the Laplace transforms of some functions of first-passage times for the diffusion. These results are applied to the special case of squared Bessel processes with killing or reflecting boundaries. In particular, we demonstrate how the above-mentioned integral identity enables us to derive the transition density of a squared Bessel process killed at the origin, without the need to invert a Laplace transform. Finally, as an application, we consider the problem of pricing barrier options on an index described by the minimal market model.

Hulley, H. 2006, 'A survey and reassessment of the constant elasticity of variance model',

*5th National Symposium on Financial Mathematics*, 5th National Symposium on Financial Mathematics, Melbourne, Australia. Hulley, H. 2006, 'Hedging basis risk using quadratic criteria',

*Quantitative Methods in Finance 2006 Conference*, Quantitative Methods in Finance 2006 Conference, Sydney, Australia. Hulley, H. 2005, 'A simulation-based analysis of equity index models',

*Quantitative Methods in Finance 2005 Conference*, Quantitative Methods in Finance 2005 Conference, -, Sydney, Australia. Hulley, H., Heath, D.P. & Platen, E. 2005, 'A comparative study of performance robustness for equity index models',

*4th National Symposium on Financial Mathematics*, 4th National Symposium on Financial Mathematics, -, Day Dream Island, Australia. Hulley, H., Heath, D.P. & Platen, E. 2005, 'A comparative study of performance robustness for equity index models',

*Mathematics in Finance International Conference*, Mathematics in Finance International Conference, -, Kruger National Park, South Africa. Platen, E., Hulley, H. & Miller, S. 2005, 'Benchmarking and fair pricing applied to two market models',

*Conference on Stochastic Calculus and its Applications to Quantitative finance and Electrical Engineering*, Conference on Stochastic Calculus and its Applications to Quantitative finance and Electrical Engineering, -, Calgary, Canada. Hulley, H. 2004, 'Fair pricing in a benchmark model with jumps',

*-*, Quantitative Methods in Finance 2004 Conference, -, Sydney, Australia.## Journal articles

Hulley, H. & McWalter, T. 2015, 'Quadratic hedging of basis risk',

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*Journal of Risk and Financial Management*, vol. 8, no. 1, pp. 83-102.View/Download from: UTS OPUS or Publisher's site

Research Paper Number: 225 Abstract: This paper examines a simple basis risk model based on correlated geometric Brownian motions. We apply quadratic criteria to minimize basis risk and hedge in an optimal manner. Initially, we derive the Follmer-Schweizer decomposition of a European claim. This allows pricing and hedging under the minimal martingale measure, corresponding to the local risk-minimizing strategy. Furthermore, since the mean-variance tradeoff process is deterministic in our setup, the minimal martingale- and variance-optimal martingale measures coincide. Consequently, the mean-variance optimal strategy is easily constructed. Simple closed-form pricing and hedging formulae for put and call options are derived. Due to market incompleteness, these formulae depend on the drift parameters of the processes. By making a further equilibrium assumption, we derive an approximate hedging formula, which does not require knowledge of these parameters. The hedging strategies are tested using Monte Carlo experiments, and are compared with recent results achieved using a utility maximization approach.

Glover, K. & Hulley, H. 2014, 'Optimal prediction of the last-passage time of a transient diffusion',

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*SIAM Journal on Control and Optimization*, vol. 52, no. 6, pp. 3833-3853.View/Download from: UTS OPUS or Publisher's site

Glover, K., Hulley, H. & Peskir, G. 2013, 'Three-dimensional Brownian motion and the golden ratio rule',

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*Annals Of Applied Probability*, vol. 23, no. 3, pp. 895-922.View/Download from: UTS OPUS or Publisher's site

Hulley, H., McKibbin, R., Pedersen, A. & Thorp, S.J. 2013, 'Means-tested public pensions, portfolio choice and decumulation in retirement',

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*The Economic Record*, vol. 89, no. 284, pp. 31-51.View/Download from: UTS OPUS or Publisher's site

Age Pension means-testing buffers retired households against shocks to wealth and may influence decumulation patterns and portfolio allocations. Simulations from a simple model of optimal consumption and allocation strategies for a means-tested retired household indicate that, relative to benchmark, eligible and near-eligible households should optimally decumulate faster, and choose more risky portfolios, especially early in retirement. Empirical modelling of a Household, Income and Labour Dynamics in Australia panel of pensioner households confirms a riskier portfolio allocation by wealthier retired households. Poorer pensioner households decumulate at around 5 per cent p.a. on average; however, better-off households continue to add around 3 per cent p.a. to wealth, even when facing a steeper implicit tax rate on wealth.

Hulley, H. & Platen, E. 2012, 'Hedging for the long run',

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*Mathematics and Financial Economics*, vol. 6, no. 2, pp. 105-124.View/Download from: UTS OPUS or Publisher's site

In the years following the publication of Black and Scholes (J Political Econ, 81(3), 637-654, 1973), numerous alternative models have been proposed for pricing and hedging equity derivatives. Prominent examples include stochastic volatility models, jump-diffusion models, and models based on Lévy processes. These all have their own shortcomings, and evidence suggests that none is up to the task of satisfactorily pricing and hedging extremely long-dated claims. Since they all fall within the ambit of risk-neutral valuation, it is natural to speculate that the deficiencies of these models are (at least in part) attributable to the constraints imposed by the risk-neutral approach itself. To investigate this idea, we present a simple two-parameter model for a diversified equity accumulation index. Although our model does not admit an equivalent risk-neutral probability measure, it nevertheless fulfils a minimal no-arbitrage condition for an economically viable financial market. Furthermore, we demonstrate that contingent claims can be priced and hedged, without the need for an equivalent change of probability measure. Convenient formulae for the prices and hedge ratios of a number of standard European claims are derived, and a series of hedge experiments for extremely long-dated claims on the S&P 500 total return index are conducted. Our model serves also as a convenient medium for illustrating and clarifying several points on asset price bubbles and the economics of arbitrage.

Hulley, H., Miller, S. & Platen, E. 2005, 'Benchmarking and fair pricing applied to two market models',

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*The Kyoto Economic Review*, vol. 74, no. 1, pp. 85-118.View/Download from: UTS OPUS

This paper considers a market containing both continuous and discrete noise. Modest assumptions ensure the existence of a growth optimal portfolio. Non-negative self-financing trading strategies, when benchmarked by this portfolio, are local martingales unde the real-world measure. This justifies the fair pricing approach, which expresses derivative prices in terms of real-world conditional expectations of benchmarked pay-offs. Two models for benchmarked primary security accounts are presentated, and fair pricing formulas for some common contingent claims are derived.

## Other

Casavecchia, L. & Hulley, H. 2015, 'Are Mutual Fund Investors Paying for Noise?'.

We demonstrate that advisory fees exhibit a positive concave dependence on the idiosyncratic volatilities of mutual fund returns. Our theoretical analysis attributes this to the impact of idiosyncratic noise on performance opacity, coupled with the infeasibility of short-selling mutual fund shares. Echoing the literature on the principal-agent model for executive compensation, we show that previous estimates of the fee-performance sensitivity for mutual funds are negatively biased, since they do not account for the impact of idiosyncratic noise on fees and performance. Finally, we show that investor sophistication reduces the dependence of advisory compensation on idiosyncratic noise.

Thorp, S.J., Hulley, H., McKibbin, R. & Pedersen, A. 2009, 'Means-tested income support, portfolio choice and decumulation in retirement',

*Research Paper Series, Quantitative Finance Research Centre, University of Technology, Sydney*. Research Paper Number: 248 Abstract: We investigate the impact of means tested public income transfers on post-retirement decumulation and portfolio choice using theoretical simulations and panel data on Australian Age Pensioners. Means tested public pension payments in Australia have broad coverage and give insight into the incentive responsiveness of well-oÂ¤, as well as poorer households. Via numerical solutions to a discrete time, fi?nite horizon dynamic programming problem, we simulate the optimal consumption and portfolio allocation strategies for a retired household subject to assets and income tests. Relative to benchmark, means tested households should optimally decumulate faster early in retirement, and choose more risky portfolios. Panel data tests on inferred wealth for pensioner households show evidence of more rapid spending early in retirement. However they also show that better-oÂ¤ households continue to accumulate, even when facing a steeper implicit tax rate on wealth than applies to poorer households. Wealthier households also hold riskier portfolios. Results from tests for Lorenz dominance of the panel wealth distribution show no decrease in wealth inequality over the ?five years of the study.

Thorp, S.J., Hulley, H., McKibbin, R. & Pedersen, A. 2009, 'Means-tested income support, portfolio choice and decumulation in retirement',

*Working Paper Series, Centre for Applied Macroeconomic Analysis*. Hulley, H. & Platen, E. 2009, 'A visual criterion for identifying Ito diffusions as martingalesor strict local martingales',

*Research Paper Series, Quantitative Finance Research Centre, University of Technology, Sydney*. Research Paper Number: 263 Abstract: It is often important, in applications of stochastic calculus to financial modelling, to know whether a given local martingale is a martingale or a strict local martingale. We address this problem in the context of a time-homogenous diffusion process with a finite lower boundary, presented as the solution of a driftless stochastic differential equation. Our main theorem demonstrates that the question of whether or not this process is a martingale may be decided simply by examining the slope of a certain increasing function. Further results establish the connection between our theorem and other results in the literature, while a number of examples are provided to illustrate the use of our criterion.

Hulley, H. & Platen, E. 2007, 'Laplace transform identities for diffusions, with applications to rebates and barrier options',

*Research Paper Series, Quantitative Finance Research Centre, University of Technology, Sydney*. Research Paper Number: 203 Abstract: Using a simple integral identity, we derive general expressions for the Laplace transform of the transition density of the process, if killing or reflecting boundaries are specified. We also obtain a number of useful expressions for the Laplace transforms of some functions of first-passage times for the diffusion. These results are applied to the special case of squared Bessel processes with killing or reflecting boundaries. In particular, we demonstrate how the above-mentioned integral identity enables us to derive the transition density of a squared Bessel process killed at the origin, without the need to invert a Laplace transform. Finally, as an application, we consider the problem of pricing barrier options on an index described by the minimal market model.

Hulley, H., Miller, S. & Platen, E. 2005, 'Benchmarking and fair pricing applied to two market models (QFRC paper #155)'.

ISSN 1441-8010 www.business.uts.edu.au/qfrc/research/research_papers/rp155.pdf

Hulley, H. & Ruf, J., 'Weak Tail Conditions for Local Martingales'.

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The following conditions are necessary and sufficient for an arbitrary
c\`adl\`ag local martingale to be a uniformly integrable martingale: (i) The
weak tail of the supremum of its modulus is zero; (ii) its jumps at the
first-exit times from compact intervals converge to zero in $L^1$, on the
events that those times are finite; and (iii) its almost sure limit is an
integrable random variable.