nep-rmg New Economics Papers
on Risk Management
Issue of 2011‒02‒05
ten papers chosen by
Stan Miles
Thompson Rivers University

  1. Basel III ans Systemic Risk Regulation - What Way Forward? By Co-Pierre Georg
  2. International Evidence on GFC-robust Forecasts for Risk Management under te Basel Accord By McAleer, M.J.; Jimenez-Martin, J-A.; Perez-Amaral, T.
  3. Extreme Returns: The Case of Currencies By Carol Osler; Tanseli Savaser
  4. The distress premium puzzle By Ali K. Ozdagli
  5. Macrostate Parameter and Investment Risk Diagrams for 2008 and 2009 By Anca Gheorghiu; Ion Sp\^anulescu
  6. Credit default swap spreads and variance risk premia By Hao Wang; Hao Zhou; Yi Zhou
  7. Financial contagion in developed sovereign bond markets By Metiu Norbert
  8. What can EMU countries' sovereign bond spreads tell us about market perceptions of default probabilities during the recent financial crisis? By Niko Dotz; Christoph Fisher
  9. Communicating Bailout Policy and Risk Taking in the Banking Industry By Jakob Bosma
  10. Aracı Kurumların Risk Haritası (Risk Maps of Securities Firms) By Coskun, Yener

  1. By: Co-Pierre Georg (School of Economics and Business Administration, Friedrich-Schiller-University Jena)
    Abstract: One of the most pressing questions in the aftermath of the financial crisis is how to deal with systemically important financial institutions (SIFIs). The purpose of this paper is to review the recent literature on systemic risk and evaluate the regulation proposals in the Basel III framework with respect to this literature. A number of shortcomings in the current framework are analyzed and three measures for future reform are proposed: counter-cyclical risk-weights, dynamic asset value correlation multipliers, and enhanced transparency requirements for SIFIs.
    Keywords: systemic risk, SIFIs, regulation
    JEL: C63 E52 E58 G21
    Date: 2011–01–27
  2. By: McAleer, M.J.; Jimenez-Martin, J-A.; Perez-Amaral, T.
    Abstract: A risk management strategy that is designed to be robust to the Global Financial Crisis (GFC), in the sense of selecting a Value-at-Risk (VaR) forecast that combines the forecasts of different VaR models, was proposed in McAleer et al. (2010c). The robust forecast is based on the median of the point VaR forecasts of a set of conditional volatility models. Such a risk management strategy is robust to the GFC in the sense that, while maintaining the same risk management strategy before, during and after a financial crisis, it will lead to comparatively low daily capital charges and violation penalties for the entire period. This paper presents evidence to support the claim that the median point forecast of VaR is generally GFC-robust. We investigate the performance of a variety of single and combined VaR forecasts in terms of daily capital requirements and violation penalties under the Basel II Accord, as well as other criteria. In the empirical analysis, we choose several major indexes, namely French CAC, German DAX, US Dow Jones, UK FTSE100, Hong Kong Hang Seng, Spanish Ibex35, Japanese Nikkei, Swiss SMI and US S&P500. The GARCH, EGARCH, GJR and Riskmetrics models, as well as several other strategies, are used in the comparison. Backtesting is performed on each of these indexes using the Basel II Accord regulations for 2008-10 to examine the performance of the Median strategy in terms of the number of violations and daily capital charges, among other criteria. The Median is shown to be a profitable and safe strategy for risk management, both in calm and turbulent periods, as it provides a reasonable number of violations and daily capital charges. The Median also performs well when both total losses and the asymmetric linear tick loss function are considered
    Keywords: median strategy;Value-at-Risk (VaR);daily capital charges;robust forecasts;violation penalties;optimizing strategy;aggressive risk management;conservative risk management;basel II Accord,;global financial crisis (GFC);G32;G11;G17;C53;C22
    Date: 2011–01–25
  3. By: Carol Osler (International Business School, Brandeis University); Tanseli Savaser (Department of Economics, Williams College)
    Abstract: This paper investigates how active price-contingent trading contributes to extreme returns even in the absence of news. Price-contingent trading, which is common across financial markets, includes algorithmic trading, technical trading, and dynamic option hedging. The paper highlights four properties of such trading that increase the frequency of extreme returns, and then estimates the relative of these properties using data from the foreign exchange market. The four key properties we consider are: (1) high kurtosis in the distribution of order sizes; (2) clustering of trades within the day; (3) clustering of trades at certain prices; and (4) positive and negative feedback between trading and returns. Calibrated simulations indicate that interactions among these properties are at least as important as any single one. Among individual properties, the orders’ size distribution and feedback effects have the strongest influence. Price-contingent trading could account for over half of realized excess kurtosis in currency returns.
    Keywords: Crash, Fat Tails,Kurtosis,Exchange Rates,Order Flow,High-Frequency,Microstructure,Jump Process,Value-At-Risk,Risk Management
    JEL: G1 F3
    Date: 2010–11
  4. By: Ali K. Ozdagli
    Abstract: Fama and French (1992) suggest that the positive value premium results from risk of financial distress. However, recent empirical research has found that financially distressed firms have lower stock returns, using empirical estimates of default probabilities. This paper reconciles the positive value premium and the negative distress premium in a model that decouples actual and risk-neutral default probabilities. Moreover, in agreement with the data, firms with higher bond yields have higher stock returns in the model. The model also captures the fact that book-to-market value dominates financial leverage in explaining stock returns. Finally, the model predicts that firms with higher risk-neutral default probabilities should have higher stock returns, a hypothesis that can be tested using credit default swap premiums.
    Keywords: Corporations - Finance ; Default (Finance)
    Date: 2010
  5. By: Anca Gheorghiu; Ion Sp\^anulescu
    Abstract: In this paper are made some considerations of the application of phenomenological thermodynamics in risk analysis for the transaction on financial markets, using the concept of economic entropy and the macrostate parameter introduced by us in a previous works [15,16]. The investment risk diagrams for a number of Romanian listed companies in 2008 and 2009 years were calculed. Also, the evolution of the macrostate parameter during financial and economic crisis in Romania are studied.
    Date: 2011–01
  6. By: Hao Wang; Hao Zhou; Yi Zhou
    Abstract: We find that firm-level variance risk premium, estimated as the difference between option-implied and expected variances, has a prominent explanatory power for credit spreads in the presence of market- and firm-level risk control variables identified in the existing literature. Such a predictability complements that of the leading state variable--leverage ratio--and strengthens significantly with lower firm credit rating, longer credit contract maturity, and model-free implied variance. We provide further evidence that: (1) variance risk premium has a cleaner systematic component and Granger-causes implied and expected variances, (2) the cross-section of firms' variance risk premia seem to price the market variance risk correctly, and (3) a structural model with stochastic volatility can reproduce the predictability pattern of variance risk premia for credit spreads.
    Date: 2011
  7. By: Metiu Norbert (METEOR)
    Abstract: This paper implements a simultaneous equations model to test for international financial contagion among developed sovereign credit markets between May 1, 2000 and September 1, 2010. Two alternative measures are proposed that identify credit crises in the tails of bond yield distributions, which are derived from Extreme Value Theory and Value-at-Risk analysis. The findings show that the large-scale fluctuations in long term sovereign bond yields observed during episodes of financial distress signal a structural shift in cross-market linkages with respect to tranquil periods. All analyzed countries are vulnerable to shift-contagion and the estimated contagion effects are robust across the different measures of credit crises. The empirical results convey the policy implication that a new sovereign debt management mechanism ought to incorporate the risk of financial contagion, as it carries adverse effects on the overall financing constraints in the economy.
    Keywords: monetary economics ;
    Date: 2011
  8. By: Niko Dotz; Christoph Fisher
    Abstract: This paper presents a new approach to analysing recent movements of EMU sovereign bond spreads. Based on a GARCH-in-mean model originally used in the exchange rate target zone literature, spreads are decomposed into a risk premium, an expected loss component and a liquidity premium. Time-varying probabilities of default are derived. The results suggest that the rise in sovereign spreads during the recent financial crisis mainly reflects an increased expected loss component. In addition, the rescue of Bear Stearns in March 2008 seems to mark a change in market perceptions of sovereign bond risk. The government bonds of some countries lost their former role as a safe haven. While price competitiveness always helps to explain sovereign spreads, it increasingly moved into investors’ focus as financial sector soundness weakened.
    Keywords: Liquidity (Economics) ; Default (Finance) ; Bonds - Prices
    Date: 2011
  9. By: Jakob Bosma
    Abstract: This paper considers the effects of imperfectly communicated information about whether a regulator initiates a bailout program for financially distressed banks. The theoretical framework allows for determining whether, and to what extent, it is optimal for a regulator to be imprecise in communicating its bank bailout strategy. Banks do not only rely on their prediction of the regulator’s action, but also on their beliefs about other banks’ predictions to infer the regulator’s strategy. Results indicate that the regulator may substitute higher capital adequacy requirements for being less precise in communicating whether to initiate a bailout program to maintain risk taking by banks.
    Keywords: bank bailout support; noisy communication; regulation; risk taking
    JEL: D82 L51
    Date: 2011–01
  10. By: Coskun, Yener
    Abstract: The idea of development of capital markets and hence securities firms had resurfaced after 1980’s in Turkey, the latest and probably the final liberal period of Turkish economy. First regulations on securities firm business appaeard after Banking Crisis of 1982 (or Banker Crisis). The number of securities firms were dramatically increased in Turkey during the first half of the 1990’s. But it has observed that the number has gradually decreased after this periodic movement. This tendency is still going on in the securities firm business (Coşkun, 2009a: 2). In this process, some argue that risk management problems were relatively less important in the failed securities firms. But, because of the problems of data availability and lack of proper reporting, it would be too optimistic to assume that all securities firm failures in the above period were related to market conditions. In this context, it is important to define specific risks of securities firms. To define sector specific risks is also important to develop ideal risk management framework for securities firms. Therefore, in this article, the author analyses the features of the securities firm business, typical balance sheet and industry specific risks.
    Keywords: securities firms; risk; capital markets; Turkey
    JEL: D53 G32 G24
    Date: 2010–07

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