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on Risk Management |
| By: | David Higgins |
| Abstract: | Evidence from the US Commercial property market suggests periods of extended stable performance are generally followed by large concentrated price fluctuations. This extreme volatility may not be fully reflected in traditional risk (standard deviation) calculations. This research studies 38 years of NCREIF commercial property market performance data for normal distribution features and signs of extreme downside risk. Methodology covers the recognised Z Test and the fractal geometry, Cubic Power Law instrument. For the reporting of annual returns on quarterly figures, the industry preferred investment performance measure, the results showed the data to be both asymmetric, and being taller and narrower than a normal bell curve distribution with fat dumb bell downside tails at the perimeter. In highlighting the challenges to measuring commercial property market performance, the research revealed a better analysis of extreme downside risk is by a Cubic Power Law distribution model, being a robust method to identify the performance of an investment to the vulnerabilities of serve risk. Modelling techniques for estimating measures of tail risk provide challenges and have shown to be beyond current risk management practices, being too narrow and constraining approach. |
| Keywords: | Commercial property market performance%2C; Extreme risk; Power Law distribution; Standard deviation |
| JEL: | R3 |
| Date: | 2017–07–01 |
| URL: | http://d.repec.org/n?u=RePEc:arz:wpaper:eres2017_397&r=rmg |
| By: | Paul Glasserman (Office of Financial Research); Qi Wu (Chinese University of Hong Kong) |
| Abstract: | Margin requirements for derivative contracts serve as a buffer against the transmission of losses through the financial system by protecting one party to a contract against default by the other party. However, if margin levels are proportional to volatility, then a spike in volatility leads to potentially destabilizing margin calls in times of market stress. Risk-sensitive margin requirements are thus procyclical in the sense that they amplify shocks. We use a GARCH model of volatility and a combination of theoretical and empirical results to analyze how much higher margin levels need to be to avoid procyclicality while reducing counterparty credit risk. Our analysis compares the tail decay of conditional and unconditional loss distributions to compare stable and risk-sensitive margin requirements. Greater persistence and burstiness in volatility leads to a slower decay in the tail of the unconditional distribution and a higher buffer needed to avoid procyclicality. The tail decay drives other measures of procyclicality as well. Our analysis points to important features of price time series that should inform "anti-procyclicality" measures but are missing from current rules. |
| Keywords: | Margin Requirements, Derivatives Contracts, Margin Calls, Cycles, Volatility, GARCH, Financial Shocks, Transmission of Losses |
| Date: | 2017–02–21 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:wpaper:17-01&r=rmg |
| By: | Hassen Raîs (ESSCA - Ecole Supérieure des Sciences Commerciales d'Angers - ESSCA) |
| Abstract: | The scientific literature has extensively studied and analyzed the determinants of risks management and focused mainly on the hedging by derivatives. This research focuses on another kind of hedging, namely business insurances and aims to validated and measure the determinants of the implementation and use of these insurances in the non-financial firms. Based on the results of an empirical survey on practices of risk management in non-financial firms, Tobit models are developed to explain the intensity of the use of business insurances by the theoretical determinants developed by risk management theory. Two types of business insurance are analyzed: the Property and Casualty (P&C) Insurance and the Operating Loss (OL) Insurance. These models measure the relationship between level of hedging and different financial characteristics of the firm. They show that the insurance policies are determined by Investment decisions and financing options for growth, by the convexity of the tax function to pay, and diversification and regulation of the activity sector, and the original result are the convex relationship between the size and the hedging intensity. |
| Date: | 2016–05–02 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-01766113&r=rmg |
| By: | Miao Yuan; Cheng Yong Tang; Yili Hong; Jian Yang |
| Abstract: | Measuring the corporate default risk is broadly important in economics and finance. Quantitative methods have been developed to predictively assess future corporate default probabilities. However, as a more difficult yet crucial problem, evaluating the uncertainties associated with the default predictions remains little explored. In this paper, we attempt to fill this blank by developing a procedure for quantifying the level of associated uncertainties upon carefully disentangling multiple contributing sources. Our framework effectively incorporates broad information from historical default data, corporates' financial records, and macroeconomic conditions by a) characterizing the default mechanism, and b) capturing the future dynamics of various features contributing to the default mechanism. Our procedure overcomes the major challenges in this large scale statistical inference problem and makes it practically feasible by using parsimonious models, innovative methods, and modern computational facilities. By predicting the marketwide total number of defaults and assessing the associated uncertainties, our method can also be applied for evaluating the aggregated market credit risk level. Upon analyzing a US market data set, we demonstrate that the level of uncertainties associated with default risk assessments is indeed substantial. More informatively, we also find that the level of uncertainties associated with the default risk predictions is correlated with the level of default risks, indicating potential for new scopes in practical applications including improving the accuracy of default risk assessments. |
| Date: | 2018–04 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1804.09302&r=rmg |
| By: | Mathias S. Kruttli (Federal Reserve Board); Phillip J. Monin (Office of Financial Research); Sumudu W. Watugala (Cornell University; Office of Financial Research) |
| Abstract: | We show that when only a few investors own a substantial portion of a hedge fund's net asset value, flow volatility increases because investors' exogenous, idiosyncratic liquidity shocks are not diversified away. Using confidential regulatory filings, we confirm that high investor concentration hedge funds experience more volatile flows. These hedge funds hold more cash and liquid assets, which help absorb large, unexpected outflows. Such funds have to pay a liquidity premium and generate lower risk-adjusted returns. Investor concentration does not affect flow-performance sensitivity. These results are robust to including lock-up and redemption periods, strategy, manager ownership, and other controls. |
| Keywords: | Hedge funds, investor concentration, flows, precautionary cash, portfolio liquidity |
| Date: | 2017–12–15 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:wpaper:17-07&r=rmg |
| By: | Philippe Briand (LAMA - Laboratoire de Mathématiques - USMB [Université de Savoie] [Université de Chambéry] - Université Savoie Mont Blanc - CNRS - Centre National de la Recherche Scientifique); Romuald Elie (LAMA - Laboratoire d'Analyse et de Mathématiques Appliquées - UPEM - Université Paris-Est Marne-la-Vallée - Fédération de Recherche Bézout - UPEC UP12 - Université Paris-Est Créteil Val-de-Marne - Paris 12 - CNRS - Centre National de la Recherche Scientifique); Ying Hu (IRMAR - Institut de Recherche Mathématique de Rennes - UR1 - Université de Rennes 1 - AGROCAMPUS OUEST - ENS Rennes - École normale supérieure - Rennes - Inria - Institut National de Recherche en Informatique et en Automatique - INSA - Institut National des Sciences Appliquées - UR2 - Université de Rennes 2 - UNIV-RENNES - Université de Rennes - CNRS - Centre National de la Recherche Scientifique) |
| Abstract: | In this paper, we study a new type of BSDE, where the distribution of the Y-component of the solution is required to satisfy an additional constraint, written in terms of the expectation of a loss function. This constraint is imposed at any deterministic time t and is typically weaker than the classical pointwise one associated to reflected BSDEs. Focusing on solutions (Y, Z, K) with deterministic K, we obtain the well-posedness of such equation, in the presence of a natural Skorokhod type condition. Such condition indeed ensures the minimality of the enhanced solution, under an additional structural condition on the driver. Our results extend to the more general framework where the constraint is written in terms of a static risk measure on Y. In particular, we provide an application to the super hedging of claims under running risk management constraint. |
| Keywords: | Backward stochastic differential equation,mean reflection,Skorokhod type minimal condition,Super-hedging,risk management constraint |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-01318649&r=rmg |
| By: | Helena Chulià (Riskcenter- IREA and Department of Econometrics, University of Barcelona, Av. Diagonal, 690, 08034. Barcelona, Spain); Jorge M. Uribe (Department of Economics, Universidad del Valle and Riskcenter- IREA, University of Barcelona) |
| Abstract: | Recent literature has shown that international financial integration facilitates cross-country consumption risk sharing. We extend this line of research and demonstrate that the decomposition of financial integration into good and bad plays an important role. We also propose new measures of countries’ capital market integration, based on good and bad volatility shocks, as well as country specific indices of consumption risk sharing. We document a decoupling of individual consumption growth from global risk sharing after episodes of negative cross-spillovers, and a recoupling after positive spillovers. Our results support current views in the literature that advocate for an asymmetric treatment of good and bad volatility shocks, in order to assess the macroeconomic dynamics that follow risk episodes. They also challenge previous views in the literature that present capital market integration (without differentiating between positive and negative shocks) as a prerequisite for higher international consumption risk sharing. Overall, they cast doubts on the actual scope for consumption risk sharing across global financial markets. |
| Keywords: | Consumption risk sharing; Capital market integration; Good and bad volatility; cross-spillovers. JEL classification:F21; F36; E21; E44 |
| Date: | 2018–05 |
| URL: | http://d.repec.org/n?u=RePEc:ira:wpaper:201809&r=rmg |
| By: | Tursoy, Turgut |
| Abstract: | This paper covers the latest amendments proposed by the Basel Committee for managing the banking risks through the process of risk management. All the necessary steps in the process are explained in this paper to explain why banks need to have the BIS application to cover any losses from their activities. In summary, as a result of the latest crises, the Basel Committee has developed a new model for covering the shortage of liquidity at the bank level in order to improve their situation to well-performing levels. The main findings in this paper are that as a monetary authority, the support and development of the Basel applications in the banking industry is the most effective option and is a critical necessity for internationally serving banks around the world to continue their activities in a healthy manner. |
| Keywords: | Risk Management, Basel, BIS |
| JEL: | G21 |
| Date: | 2018–04–30 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:86427&r=rmg |
| By: | Monia Ltaifa (Université de Sfax) |
| Abstract: | The aim of this study is to examine empirically the variables of the risks of Islamic banks in the Gulf countries. Methodologically, we use a sample of 23 Islamic banks during the period from 2007 to 2012. From the empirical findings, we can show that the variablevolatility of return on assetsand the regulatory variable explains the banking risks. Nous avons aussi montré que la taille influence les risques bancaires.We have alsoshownthat size influences bankingrisks. In addition, we find that the sizeinfluences banking risks.It has allowed us to see that the big banks can invest in more risky projects. |
| Date: | 2018–01–01 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-01761031&r=rmg |
| By: | Samim Ghamami (Office of Financial Research); Paul Glasserman (Office of Financial Research; Columbia University) |
| Abstract: | The reform program for the over-the-counter (OTC) derivatives market launched by the G-20 nations in 2009 seeks to reduce systemic risk from OTC derivatives. The reforms require that standardized OTC derivatives be cleared through central counterparties (CCPs), and they set higher capital and margin requirements for non-centrally cleared derivatives. Our objective is to gauge whether the higher capital and margin requirements adopted for bilateral contracts create a cost incentive in favor of central clearing, as intended. We introduce a model of OTC clearing to compare the total capital and collateral costs when banks transact fully bilaterally versus the capital and collateral costs when banks clear fully through CCPs. Our model and its calibration scheme are designed to use data collected by the Federal Reserve System on OTC derivatives at large bank holding companies. We find that the main factors driving the cost comparison are (i) the netting benefits achieved through bilateral and central clearing; (ii) the margin period of risk used to set initial margin and capital requirements; and (iii) the level of CCP guarantee fund requirements. Our results show that the cost comparison does not necessarily favor central clearing and, when it does, the incentive may be driven by questionable differences in CCPs’ default waterfall resources. We also discuss the broader implications of these tradeoffs for OTC derivatives reform. |
| Keywords: | central counterparties (ccp), over-the-counter, defaults, cost incentives |
| Date: | 2016–07–26 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:wpaper:16-07&r=rmg |
| By: | Fabio Di Vittorio; Delong Li; Hanlei Yun |
| Abstract: | The paper focuses on the impact of diversification on bank performance and how consolidation through mergers and acquisitions (M&A) affects the banking sector’s stability in the Eastern Caribbean Currency Union (ECCU). The paper finds that a lower level of loan portfolio diversification explains higher non-performing loans and earnings volatility of indigenous banks, as compared to foreign competitors in the ECCU. We then simulate bank mergers both within and across ECCU countries by combining individual banks’ balance sheets. The simulation shows that a typical indigenous bank could better diversify against its idiosyncratic risk by merging with other banks across the border. In addition, we point out that M&A, leading to a more asymmetric banking sector, may increase systemic risk. |
| Date: | 2018–04–24 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:18/92&r=rmg |
| By: | Kevin Kuo |
| Abstract: | We propose a novel approach for loss reserving based on deep neural networks. The approach allows for jointly modeling of paid losses and claims outstanding, and incorporation of heterogenous inputs. We validate the models on loss reserving data across lines of business, and show that they attain or exceed the predictive accuracy of existing stochastic methods. The models require minimal feature engineering and expert input, and can be automated to produce forecasts at a high frequency. |
| Date: | 2018–04 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1804.09253&r=rmg |
| By: | Suarez, Ronny |
| Abstract: | In this paper, we compared the distribution of the AEX Index monthly returns of the period 1994-2005 against the period 2006-2017 to evaluate the presence of negative extreme events. Through the analysis of the Return Level value (R10) we have concluded that AEX Index period 1994-2005 has a similar risk that the period 2006-2017. |
| Keywords: | AEX Index; Generalized Pareto Distribution, Return Level |
| JEL: | C0 |
| Date: | 2018–04–13 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:86197&r=rmg |
| By: | Meraj Allahrakha (Office of Financial ResearchAuthor-Name: Jill Cetina; Office of Financial Research); Benjamin Munyan (Office of Financial Research) |
| Abstract: | While simpler than risk-based capital requirements, the leverage ratio may encourage bank risktaking. This paper examines the activity of broker-dealers affiliated with bank holding companies (BHCs) and broker-dealers not affiliated with BHCs in the repurchase agreement (repo) market to test whether this may be occurring. Using data on the triparty repo market, the paper arrives at three findings. First, following the 2012 introduction of the supplementary leverage ratio (SLR), broker-dealer affiliates of BHCs decreased their repo borrowing but increased their use of repo backed by more price-volatile collateral. Second, the paper finds that regardless of whether a U.S. BHC-affiliated broker-dealer parent is above or below the SLR requirement, the announcement of the SLR rule has disincentivized those dealers affiliated with BHCs from borrowing in triparty repo. Finally, the paper finds an increase in the number of active nonbankaffiliated dealers in certain asset classes of triparty repo since the 2012 introduction of the supplementary leverage ratio. This suggests risks may be shifting outside the banking sector. |
| Keywords: | Banking, leverage ratio, heightened prudential regulation, repurchase agreement, global systemically important banks |
| Date: | 2016–11–10 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:wpaper:16-11&r=rmg |
| By: | Asen Ivanov (Queen Mary University of London) |
| Abstract: | This paper analyses a model in which employees are biased in their perception of their optimal contribution rates or asset allocations in defined contribution pension plans. The optimal default is characterised as a function of the parameters. It is shown that, for some values of the parameters, forcing employees to actively decide is the optimal default policy. The total loss in the population at the optimal default policy can be nonmonotone in the parameters in counterintuitive ways. |
| Keywords: | optimal defaults, libertarian paternalism, nudging, pension plan design |
| JEL: | D14 D91 J26 J32 |
| Date: | 2018–04–27 |
| URL: | http://d.repec.org/n?u=RePEc:qmw:qmwecw:858&r=rmg |
| By: | Richard Bookstaber (Office of Financial Research); Dror Kenett (Office of Financial Research) |
| Abstract: | This brief introduces a three-layer map to illustrate how the circulation of short-term funding, collateral, and assets may spread financial stability risks throughout the U.S. financial system. Potential vulnerabilities and contagion paths emerge as large banks, hedge funds, central clearinghouses, and other market participants become increasingly interconnected. |
| Keywords: | short-term funding, financial stability, contagion paths, financial map |
| Date: | 2016–07–14 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:briefs:16-06&r=rmg |
| By: | Mark Paddrik (Office of Financial Research); H. Peyton Young (Office of Financial Research) |
| Abstract: | We propose a general framework for estimating the likelihood of default by central counterparties (CCP) in derivatives markets. Unlike conventional stress testing approaches, which estimate the ability of a CCP to withstand nonpayment by its two largest counterparties, we study the direct and indirect effects of nonpayment by members and/or their clients through the full network of exposures. We illustrate the approach for the credit default swaps (CDS) market under shocks that are similar in magnitude to the Federal Reserve’s 2015 Comprehensive Capital Analysis and Review trading book shock. The analysis indicates that conventional stress testing approaches may underestimate the potential vulnerability of the main CCP for this market. |
| Keywords: | Credit default swaps, central counterparties, stress testing, systemic risk, financial networks |
| Date: | 2017–11–02 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:wpaper:17-06&r=rmg |
| By: | Andrea Aguiar (Morgan Stanley); Dror Y. Kenett (Office of Financial Research); Richard Bookstaber (Regents of the University of California); Thomas Wipf (Morgan Stanley) |
| Abstract: | All flows of secured funding in the financial system are met by flows of collateral in the opposite direction. A network depicting secured funding flows thus implicitly reveals a network of collateral flows. Collateral can also be presented as its own network to show collateral arrangements with bilateral counterparties, triparty banks, and central counterparties; the purpose and incentives of collateral exchanges; and participants involved. We create a collateral map to show how this function of the financial system works, especially with secured funding and derivatives activity. This paper provides insights into the increased demand for collateral, the reduced capacity for banks to act as collateral intermediaries, and examples of risks and vulnerabilities in collateral flows. |
| Keywords: | central counterparties (ccp), maps, collateral, margin lending, securities lending |
| Date: | 2016–05–26 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:wpaper:16-06&r=rmg |
| By: | Stathis Tompaidis (Office of Financial Research) |
| Abstract: | This brief proposes a novel way to conduct a U.S. systemwide stress test of central counterparties, or CCPs. The approach takes into account the impacts of losses and defaults at CCPs' member banks. It would require little extra effort by companies because regulators can use the results of existing stress tests of CCPs. |
| Keywords: | central clearing, risk management, central counterparties, Commodity Futures Trading Commission, European Securities and Markets authority |
| Date: | 2017–02–22 |
| URL: | http://d.repec.org/n?u=RePEc:ofr:briefs:17-03&r=rmg |