nep-rmg New Economics Papers
on Risk Management
Issue of 2015‒09‒26
ten papers chosen by
Stan Miles
Thompson Rivers University

  1. Margin adequacy and extreme value analysis in JSE financial futures By Chris Motengwe
  2. TERES - Tail Event Risk Expectile based Shortfall By Philipp Gschöpf; Wolfgang Karl Härdle; Andrija Mihoci;
  3. Alegerea soluţiilor pentru expunerile faţă de risc By Stefanescu, Razvan; Dumitriu, Ramona
  4. Portfolio Optimization of Global REITs Returns: High-Dimensional Copula-Based Approach By ROENGCHAI TANSUCHAT
  5. Norway: Financial Sector Assessment Program-Technical Note-Insurance Sector Stress Tests By International Monetary Fund. Monetary and Capital Markets Department
  6. Research methodologies and publication trends in Credit Risk: A content analysis of 25 years of credit risk management research By Maha Ijaz
  7. Bank Risk Proxies and the Crisis of 2007/09: A Comparison By Felix Noth; Lena Tonzer
  8. Norway: Financial Sector Assessment Program-Technical Note- Stress Testing the Banking Sector By International Monetary Fund. Monetary and Capital Markets Department
  9. Norway: Financial Sector Assessment Program-Technical Note- Macroprudential Policy By International Monetary Fund. Monetary and Capital Markets Department
  10. The Roles of Risk Governance on Islamic Banking Systems By Fauziah Mahat; Noor Azman Ali

  1. By: Chris Motengwe (University of the Witwatersrand)
    Abstract: This paper examines margin levels for futures contracts on the Johannesburg Stock Exchange (JSE). In Adrangi and Chatrath (1999), a margin is a good faith deposit protecting financial market participants from default. Margins are central to risk minimization and market stability. Margin setting entails balancing trading costs against the probability of default (Dewachter & Gielens, 1999). As far as we know, there has not been any paper on margin exceedances in financial futures on the JSE. Furthermore, it is believed this may be the first paper on financial futures margins on JSE applying extreme value theory approaches. Cotter (2001) poses the question whether extreme movements on financial markets are inherently symmetrical across long and short positions? We motivate the paper based on potential asymmetry in tails of returns testing whether there is a difference in extreme positive and negative price movements. The null hypothesis states positive and negative returns have equal distributions. If normality exists, t-tests are appropriate, otherwise distribution-free tests are used. Two-sample distribution-free tests used include; Wilcoxon (W) test, Siegel-Tukey (ST), Kolmogorov-Smirnov (KS) test and Mann Whitney (MW) test. Further, we follow Peiró (2004) in choosing cut-off points in the two return tails, say -5% and +5%. We count the number of observations beyond the cut-off points in negative and positive extreme tails making comparisons ascertaining symmetry.Extreme market movements are linked to market corrections, crashes, financial collapses and foreign currency crisis (Longin, 2000). The extreme value approach derives optimal margins using tails of returns distribution (Cotter, 2001). The generalized pareto distribution (GPD) and the generalized extreme value distribution (GEV) are key approaches used similar to Lehikoinen (2007) and Zhao, Scarrott, Oxley, and Reale (2011). Three methods are identified for dispersion, location and shape parameter estimation; non-linear least squares, maximum log likelihood, and the non-parametric Hill estimator. Margin violation probabilities are estimated given a range of margin levels. Exceedances at given margin levels are used to calculate the amount of time before margin violation occurs, for lower and upper tail distributions. Actual margin levels fixed by JSE are examined estimating corresponding violation probabilities. Implications of inadequate margins are spelt out taking into account margins are a cost limiting participation on futures markets.
    Keywords: Futures market; margin adequacy; extreme value theory; return asymmetry; margin violation probabilities
    JEL: C14 G00 G01
  2. By: Philipp Gschöpf; Wolfgang Karl Härdle; Andrija Mihoci;
    Abstract: A flexible framework for the analysis of tail events is proposed. The framework contains tail moment measures that allow for Expected Shortfall (ES) estimation. Connecting the implied tail thickness of a family of distributions with the quantile and expectile estimation, a platform for risk assessment is provided. ES and implications for tail events under different distributional scenarios are investigated, particularly we discuss the implications of increased tail risk for mixture distributions. Empirical results from the US, German and UK stock markets, as well as for the selected currencies indicate that ES can be successfully estimated on a daily basis using a one-year time horizon across different risk levels.
    Keywords: Expected Shortfall, expectiles, tail risk, risk management, tail events, tail moments
    JEL: C13 C16 G20 G28
    Date: 2015–09
  3. By: Stefanescu, Razvan; Dumitriu, Ramona
    Abstract: In the framework of the risk management process, after a risk was identified, the exposure was analyzed and the solutions were generated, a decision about the best way to treat the exposure has to be adopted. In this paper we approach some techniques to optimize such a decision. We approach also some factors of the risk attitude.
    Keywords: Risk, Uncertainty, Decisions, Risk Exposures
    JEL: D81 D89 G32
    Date: 2015–06–16
  4. By: ROENGCHAI TANSUCHAT (Faculty of Economics, Chiang Mai University)
    Abstract: The objectives of this paper are to investigate the optimum portfolio of REIT index return of Asia – Pacific, Europe, USA, and emerging markets with multivariate t copula based on GARCH model, and to measure portfolio risk with value at risk (VaR) and component VaR (CVaR). The 1,454 REIT price index return observations were collected from 1 Dec 2009 to 29 June 2015 and calculated based on a continuous compound basis. The empirical results showed that the estimated equations of USA, Europe and emerging REIT index returns were ARMA(2,2)-GARCH(1,1), while ASIA-Pacific was ARMA(3,3)-GARCH(1,1). The coefficients of t distribution of these equations were also statistically significant at 1%, meaning the assumption of t distribution for ARMA-GARCH estimation was reasonable. Then, the multivariate t copula was used to construct an optimized portfolio for high dimensional risk management. The Monte Carlo simulation was applied in order to construct the optimized portfolio by using the mean-CVaR model at the given significance level of 5% and to obtain the efficient frontier of the portfolio under different expected returns. Finally, the optimal weights of the portfolio were obtained with the various expected returns in frontier.
    Keywords: REITs, Portfolio Optimization, Multivariate t Copula, CVaR
    JEL: G11 C32 C58
  5. By: International Monetary Fund. Monetary and Capital Markets Department
    Abstract: While the financial condition of insurance companies under Solvency I has generally been sound, insurers face major challenges going forward, thus placing an important premium on sound risk management and effective oversight by supervisors. First, a continued low-interest rate environment would adversely impact earnings and the claims-paying capacity of life insurers over the medium term, as some 83 percent of their liabilities carry guaranteed minimum rates of return. For example, at end-2013, the guaranteed return averaged 3.2 percent, above the return on 10-year government bonds, and the difference seems to have widened in 2014–15. This is particularly challenging given insurers’ significant asset-liability maturity mismatch: the five largest life insurers’ liability duration is about 16 years while asset duration is about 4 years. Second, life insurers’ reliance on products bearing longevity risks makes them vulnerable to rising longevity. Third, pension providers are required to apply the new mortality tables, which will significantly increase technical reserves. In response, insurers have recently started to encourage existing policyholders with guaranteed products to switch their policies to “unit-linked†(nonguaranteed) products, thus shifting risks from insurers to policyholders. Furthermore, the expected implementation of Solvency II represents additional challenges for life insurers (as in many peer countries).
  6. By: Maha Ijaz (Lahore School of Economics)
    Abstract: Purpose: This paper investigates trends in the use of research methodologies and publications in Credit Risk management literature, classified into two broad themes; Credit risk measurement and credit risk pricing, across geographical regions and suggests potential future research opportunities.Methodology: This literature review is based on 140 subject relevant empirical quantitative articles published in peer reviewed journals and uses systematic content analysis as the primary method for data analysis. This review investigates a) developments in the use of research methodologies in terms of research design, types of baseline models, sample size, determinants of credit risk, statistical techniques and time horizon of studies, and b) publication trends in terms of authorship type, authorship collaboration, top journals and citation analysis.Findings: Recently, research in credit risk management has substantially moved from measurement of credit risk to pricing of credit risk. North America and Europe have consistently shown increasing research interest in the area. However, other regions of the world have not yet explored the area to its fullest potential. Significant opportunities and synergies exist for collaborative research among regions.Research limitations: Though the literature review is limited in its selection of articles, it sketches a picture that may surrogate whole research community in credit risk management.Practical implication: Trends in research methodologies and publications provide directions for designing future research projects relevant to various geographical regions of the world. This will help develop a meaningful understanding of credit risk management that is helpful for risk managers.Originality: This paper provides broader and deeper review of credit risk literature. Complex patterns in data are revealed using cross tabulations and advanced cross tabulations that have not been performed in previous content analysis based reviews in credit risk. These patterns will prove useful for designing future research avenues.
    Keywords: Research methodologies, Credit risk management, Credit risk measurement, Credit risk pricing, Publication trends, literature review.
  7. By: Felix Noth; Lena Tonzer
    Abstract: Motivated by the variety of bank risk proxies, our analysis reveals that nonperforming assets are a well-suited complement to the Z-score in studies of bank risk.
    Keywords: banking, financial institutions, risk proxie
    JEL: G21 G28 G32
    Date: 2015–09
  8. By: International Monetary Fund. Monetary and Capital Markets Department
    Abstract: The Norwegian banking sector is generally well prepared to cope well with possible external shocks, but imbalances have built up in recent years and could pose challenges. Strong real mainland GDP growth, and high oil production and exports since the 2008 crisis have supported high credit quality and healthy bank profitability, despite a decline in interest margins.2 Profit retention and equity issuance have accounted for the build-up of additional capital in the system. Banks’ capitalizations were also propped up by risk-weight reductions for banks adopting the Basel II internal ratings-based (IRB) approach, even though the authorities have curbed excessive reductions via regulatory measures. The economic outlook under the baseline is expected to continue to support limited credit risks and strong profitability. However, the build-up of imbalances that began before the 2008 crisis—including the rise in household and corporate leverage—poses challenges. Banks’ dependence on wholesale funding also remains high, even though banks have increased maturities—including of foreign borrowing—following funding pressures during the 2008 crisis.
  9. By: International Monetary Fund. Monetary and Capital Markets Department
    Abstract: Credit growth, household debt, property prices and banks’ wholesale funding are important systemic concerns. Key sources of cyclical systemic risk include the strength of mortgage lending (the credit-to-GDP ratio and the household debt-to-disposable income ratio both stand at around 200 percent), and the strong rise in, and overvaluation of, house prices (house prices are believed to be overvalued by some 20–60 percent). In the structural dimension, systemic risk arises primarily from the heavy dependence of Norwegian banks on wholesale funding. Low interest rates may be fuelling credit and asset price growth, while the main macroeconomic vulnerability is falling oil prices.
  10. By: Fauziah Mahat (Universiti Putra Malaysia); Noor Azman Ali (Universiti Putra Malaysia)
    Abstract: The role financial institutions sector in economic activities with higher capitalization ratio have the impact to alleviate credit and market risks including measuring in loan-to-deposit ratio. Good risk governance cannot be denied when the failure of financial systems does not exempt the Islamic financial institutions. Some of the recent examples for the collapses of Ihlas Finance House of Turkey, the Islamic Bank of Africa, Dubai Islamic Bank and Investment Companies of Egypt. The failure of financial market in OECD countries demonstrate Islamic banks are not much different from conventional banks. Another issues raised in this paper is the financial crisis which reveals risk-related issues resulted from mismanagement of risk at organizational level including various stakeholders. The aim of this paper is to discuss the significant roles of risk governance as the mediating variables between the risk management initiatives and the banks corporate performance. Early empirical study define risk management as a process which managers capabilities identifying and mitigate risk. There are vast reason of explaining the necesity of governance to avoid risk-related failure of financial marketis due to systems complexity and high risk exposures. The risk governance concept is founded from the agency theory, stakeholder-based governance theory, and delegated monitoring theory. The stakeholder based governance present the ideas whereby banks need to provide multiple benefits relationship include customer, supplier, distributors and employees. This research explores the secondary data relevant to analyze the risk governance effects of the 50 international Islamic banks between the periods of 2008-2013. The necessary statistical testing was explained for hypothesis testing and the model development. The expected outcome from the analysis is to tightened the construct to ensure level of risk monitoring is sufficient, minimizing moral hazard and prompt corrective action framework by incorporating the elements of corporate governance.
    Keywords: Financial Risk Management; Corporate Governance; Risk Governance; Islamic Banking
    JEL: G38

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