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on Risk Management |
| By: | Mikhail Tselishchev |
| Abstract: | It is well known that Expected Shortfall (also called Average Value-at-Risk) is a convex risk measure, i. e. Expected Shortfall of a convex linear combination of arbitrary risk positions is not greater than a convex linear combination with the same weights of Expected Shortfalls of the same risk positions. In this short paper we prove that Expected Shortfall is a concave risk measure with respect to probability distributions, i. e. Expected Shortfall of a finite mixture of arbitrary risk positions is not lower than the linear combination of Expected Shortfalls of the same risk positions (with the same weights as in the mixture). |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.00640&r=all |
| By: | Bührle, Anna Theresa; Spengel, Christoph |
| Abstract: | Most of the European Member States employ anti-loss trafficking rules. They aim to prevent the acquisition of mere corporate shells with high tax loss carryforwards for the tax asset to be utilized in profitable companies. However, other corporations can unintentionally be affected by the anti-abuse regulations if there is a change in ownership or activity. The transfer restrictions have been argued to impair start-up financing, as investors are faced with the risk of losing accumulated loss carryforwards in the corporation upon the entering of new or the capital increase of existing investors. This study provides an overview over the design and development of loss transfer restrictions in the EU28 over a time period of 19 years (2000-2018). Different aspects of the regulations are analyzed against the background of their impact on start-ups. Finally, the rules are categorized with respect to their strictness. Over time, more countries introduced restrictions. At the same time, the regulations became more lenient, offering start-ups more opportunities to maintain their loss carryforwards and, therefore, decreasing the risk for investors. |
| Keywords: | tax loss carryforward,loss trafficking,loss transfer,entrepreneurship,start-ups |
| JEL: | M13 H25 H32 L52 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:zewdip:19037&r=all |
| By: | Carlos Madeira (Central Bank of Chile) |
| Abstract: | The covariance risk of consumer loans is difficult to measure due to high heterogeneity. Using the Chilean Household Finance Survey I simulate the default conditions of heterogeneous households over distinct macro scenarios. I show that consumer loans have a high covariance beta relative to the stock market and bank assets. Banks' loan portfolios have very different covariance betas, with some banks being prone to high risk during recessions. High income and older households have lower betas and help diversify banks' portfolios. Households' covariance risk increases the probability of being rejected for credit and has a negative impact on loan amounts. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:240&r=all |
| By: | Jorge E. Galán (Banco de España); Matías Lamas (Banco de España) |
| Abstract: | Booming house prices have been historically correlated with the loosening of banks’ lending standards. Nonetheless, the evidence in Spain shows that the deterioration of lending policies may not be fully captured by the popular loan-to-value (LTV) ratio. Drawing on two large datasets comprising more than five million mortgage operations that cover the last financial cycle, we show that the LTV indicator may exhibit a misleading picture of actual mortgage credit imbalances and risk. In turn, risk identification improves when other metrics are considered. In particular, we show that loan-to-price (LTP) as well as ratios that consider the income of borrowers are major determinants of mortgage defaults. Moreover, we identify relevant non-linear effects of lending standards on default risk. Finally, we document that the relationship between lending standards and default rates changes over the cycle. Overall, the findings provide useful insights for the design of the macroprudential policy mix and, in particular, for the implementation of borrower-based measures. |
| Keywords: | housing market, lending standards, defaults, macroprudential policy |
| JEL: | C25 E58 G01 G21 R30 |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:1931&r=all |
| By: | Yukun Liu (Yale University); Aleh Tsyvinski (Yale University) |
| Abstract: | We establish that the risk-return tradeoff of cryptocurrencies (Bitcoin, Ripple, and Ethereum) is distinct from those of stocks, currencies, and precious metals. Cryptocurrencies have no exposure to most common stock market and macroeconomic factors or to the returns of currencies and commodities. In contrast, we show that the cryptocurrency returns can be predicted by factors which are specific to cryptocurrency markets – there is a strong time-series momentum effect and proxies for investor attention strongly forecast cryptocurrency returns. Finally, we create an index of exposures to cryptocurrencies of 354 industries in the US and 137 industries in China. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:160&r=all |
| By: | Derek Singh; Shuzhong Zhang |
| Abstract: | This paper investigates calculations of robust CVA for OTC derivatives under distributional uncertainty using Wasserstein distance as the ambiguity measure. Wrong way counterparty credit risk can be characterized (and indeed quantified) via the robust CVA formulation. The simpler dual formulation of the robust CVA optimization is derived. Next, some computational experiments are conducted to measure the additional CVA charge due to distributional uncertainty under a variety of portfolio and market configurations. Finally some suggestions for future work, such as robust FVA, are discussed. |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.01781&r=all |
| By: | Derek Singh; Shuzhong Zhang |
| Abstract: | This paper investigates calculations of robust funding valuation adjustment (FVA) for over the counter (OTC) derivatives under distributional uncertainty using Wasserstein distance as the ambiguity measure. Wrong way funding risk can be characterized via the robust FVA formulation. The simpler dual formulation of the robust FVA optimization is derived. Next, some computational experiments are conducted to measure the additional FVA charge due to distributional uncertainty under a variety of portfolio and market configurations. Finally some suggestions for future work, such as robust capital valuation adjustment (KVA) and margin valuation adjustment (MVA), are discussed. |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.03993&r=all |
| By: | Bersch, Johannes; Degryse, Hans; Kick, Thomas; Stein, Ingrid |
| Abstract: | How does bank distress impact their customers' probability of default and trade credit availability? We address this question by looking at a unique sample of German firms from 2000 to 2011. We follow their firm-bank relationships through times of distress and crisis, featuring the different transmission of bank distress shocks into already weakened firm balance sheets. We find that a distressed bank bailout, which is subject to restructuring and deleveraging conditions, leads to a bank-induced increase of firms' probabilities of default. Moreover, bailouts tend to reduce trade credit availability and ultimately firms' sales. We further find that the direction and magnitude of the effects depends on firm quality and the relationship orientation of banks. |
| Keywords: | bank distress,bank risk channel,firm risk channel,relationship banking,firmdefaults,financial crisis |
| JEL: | G01 G21 G24 G33 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:bubdps:382019&r=all |
| By: | Soumyatanu Mukherjee; Sidhartha S Padhi |
| Abstract: | This paper studies the decision problem of risk averse single-output producers and suppliers under uncertainties in input prices, in a two-moment decision model with the presence of a dependent background risk. This framework is based on the utility from the expected value and the standard deviation of the uncertain random total profit of the supplier. Our theoritical framework for studying producers' responses to risks allows not only for analysing risk averse suppliers' attitude towards endogenous and background risks, but also to identify how the changes in the connectivity (ie correlation) between these two broad sources of risks will affect the risk averse suppliers' decision at the optimum. All comparative static effects are described in terms of the relative sensitivity of the supplier towards risks. This analytical framework has a number of potential application in development economics, such as optimal production decision under energy price uncertainty, ouput price uncertainty, and exchange rate uncertainty. |
| Keywords: | supply chain management, risk management, two-moment decision model, background risk |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:not:notcre:18/11&r=all |
| By: | Ian Dew-Becker; Stefano Giglio; Bryan T. Kelly |
| Abstract: | We study the pricing of uncertainty shocks using a wide-ranging set of options that reveal premia for macroeconomic risks. Portfolios hedging macro uncertainty have historically earned zero or even significantly positive returns, while those exposed to the realization of large shocks have earned negative premia. The results are consistent with an important role for "good uncertainty". Options for nonfinancials are particularly important for spanning macro risks and good uncertainty. The results dictate the role of uncertainty and volatility in structural models and we show they are consistent with a simple extension of the long-run risk model. |
| JEL: | E32 G12 G13 |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:26323&r=all |
| By: | Mateusz Mokrogulski (Warsaw School of Economics) |
| Abstract: | The main objective of this paper is to present macroprudential measures introduced in Poland compared to other EU Member States. Macroprudential policy is applied to strengthen the resilience of the financial system in case of materialisation of systemic risk and to support long-term sustainable economic growth. In Poland a lot of effort has been made to address the problem of Swiss franc loans. Due to increasing risk weights for FX portfolios, banks have to maintain much more capital to address systemic risk compared to domestic-currency portfolios. Other macroprudential policy instruments were set to evaluate the systemic importance of large banks operating in Poland. Nevertheless, supervisory authorities from Central and Eastern European countries do not have full flexibility in implementing macroprudential policy instruments. |
| Keywords: | macroprudential policy, capital buffer, risk weights, banking sector, systemic risk, financial stability |
| JEL: | D04 G21 G28 |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:sek:iefpro:9511877&r=all |
| By: | João Carvalho; João Beleza Sousa; Raquel M. Gaspar |
| Abstract: | This paper evaluates the path–dependency/independency of most widespread PortfolioInsurance strategies. In particular, we look at Constant Proportion Portfolio Insurance (CPPI)structures and compare them to both the classical Option Based Portfolio Insurance(OBPI)and naive strategies such as Stop-loss Portfolio Insurance (SLPI) or a CPPI with a multiplierof one. The paper is based uponconditional Monte Carlo simulations and we show that CPPI strategies with a multiplier higher than 1 are extremely path-dependent and that they can easilyget cash-locked, even in scenarios when the underlying at maturity can be worth much morethan initially. The likelihood of being cash-locked increases with the size of the multiplierand the maturity of the CPPI, as well as with properties of the risky underlying’s dynamics.To emphasize the path dependency of CPPIs,we show that even in scenarios where theinvestor correctly “guesses” a higher future value for the underlying, CPPIs can get cash-locked,losing the linkage to the risky asset.This cash-lock problem is specific of CPPIs, itgoes against its European-style nature of traded CPPIs, and it introduces into the strategy a risks not related to the underlying risky asset – a design risk.Design risk does not occur forpath-independent portfolio insurance strategies, like the classical case of OBPI strategies, norin naive strategies. This study contributes to reinforce the idea that CPPI strategies suffer froma serious design problem. |
| Keywords: | Portfolio Insurance, CPPI, OBPI, SLPI, path-dependencies, cash-lock, Conditioned GBM Simulations |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:ise:remwps:wp0942019&r=all |
| By: | Claus Baumgart; Johannes Krebs; Robert Lempertseder; Oliver Pfaffel |
| Abstract: | This article presents a stochastic framework to quantify the biometric risk of an insurance portfolio in solvency regimes such as Solvency II or the Swiss Solvency Test (SST). The main difficulty in this context constitutes in the proper representation of long term risks in the profit-loss distribution over a one year horizon. This will be resolved by using least-squares Monte Carlo methods to quantify the impact of new experience on the annual re-valuation of the portfolio. Therefore our stochastic model can be seen as an example for an internal model, as allowed under Solvency II or the SST. Since our model does not rely upon nested simulations it is computationally fast and easy to implement. |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.03951&r=all |
| By: | Rodolfo Manuelli (Washington University); Juan Sanchez (Federal Reserve Bank of St. Louis) |
| Abstract: | We study the endogenous determination of debt maturity in a setting with default risk. Firms have access to a bond with a flexible structure. The optimal bond maturity balances liquidity risk and default risk. Firms with poor prospects and firms in more unstable industries will choose shorter maturities even if it is feasible to issue longer debt. The model also offers predictions on how asset maturity, asset salability, and leverage influence maturity. Even though our model is extremely stylized, predictions are roughly consistent with the evidence. Moreover, it o¤ers some insights into the factors that determine the structure of debt. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:1103&r=all |
| By: | Antonio Bellofatto (University of Queensland) |
| Abstract: | I study the optimal taxation of wealth in a dynastic economy with heterogeneous mortality risk, and various sources of wealth accumulation (including savings and bequests). Working individuals are indexed by skills which are private information. Skills not only determine earning abilities but also correlate with survival probability, so that more productive agents on average live longer. My analysis points to the longevity gradient as a crucial determinant for optimal wealth taxation, both from a theoretical and from a quantitative angle. In particular, due to longevity variations, savings should be marginally taxed in expectation, while bequests received early in life should be marginally subsidized on average. When calibrated to U.S. data, such forces are commensurate with the actual levels of wealth taxation in a sample of developed countries. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:1278&r=all |
| By: | Saki Bigio (UCLA); Adrien d'Avernas (Stockholm School of Economics) |
| Abstract: | Financial crises seem particularly severe and lengthy when banks fail to re- capitalize after bearing large losses. We present a model that explains the slow recovery of bank capital and economic activity. Banks provide intermediation in markets with informational asymmetries. Large equity losses force banks to reduce intermediation, which exacerbates adverse selection. Adverse selection lowers profit margins for banks, which lowers banks profits and incentives to recapitalize. The model delivers financial crises characterized by persistent low economic growth. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:511&r=all |
| By: | Degiannakis, Stavros; Filis, George; Klein, Tony; Walther, Thomas |
| Abstract: | We forecast the realized and median realized volatility of agricultural commodities using variants of the Heterogeneous AutoRegressive (HAR) model. We obtain tick-by-tick data for five widely traded agricultural commodities (Corn, Rough Rice, Soybeans, Sugar, and Wheat) from the CME/ICE. Real out-of-sample forecasts are produced for 1- up to 66-days ahead. Our in-sample analysis shows that the variants of the HAR model which decompose volatility measures into their continuous path and jump components and incorporate leverage effects offer better fitting in the predictive regressions. However, we convincingly demonstrate that such HAR extensions do not offer any superior predictive ability in the out-of-sample results, since none of these extensions produce significantly better forecasts compared to the simple HAR model. Our results remain robust even when we evaluate them in a Value-at-Risk framework. Thus, there is no benefit by adding more complexity, related to volatility decomposition or relative transformations of volatility, in the forecasting models. |
| Keywords: | Agricultural Commodities, Realized Volatility, Median Realized Volatility, Heterogeneous Autoregressive model, Forecast. |
| JEL: | C22 C53 Q02 Q17 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:96267&r=all |
| By: | Ozan Akdogan |
| Abstract: | We extend the scope of the vol-of-vol expansion given in [27] from finite dimensional stochastic volatility models to infinite dimensional (rough) forward variance models and provide new explicit representations of the push-down Malliavin weights that simplifies the computations and provides new insights into their structure. This will validate the Bergomi-Guyon expansion for a large class of forward variance models. |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.03245&r=all |
| By: | Randall Martyr; John Moriarty |
| Abstract: | We obtain structural results for non-Markovian optimal stopping problems in discrete time when the decision maker is risk averse and has partial information about the stochastic sequences generating the costs. Time consistency is ensured in the problem by the aggregation of a sequence of conditional risk mappings, and the framework allows for model ambiguity. A reflected backward stochastic difference equation is used to characterise the value function and optimal stopping times. |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.04047&r=all |
| By: | Helena Chuliá (Riskcenter- IREA and Department of Econometrics, University of Barcelona. Av. Diagonal, 690, 08034. Barcelona, Spain.); Christoph Koser (Department of Econometrics, University of Barcelona. Av. Diagonal, 690, 08034. Barcelona, Spain.); Jorge M. Uribe (Faculty of Economics and Business Studies, Open University of Catalonia. Barcelona, Spain.) |
| Abstract: | This study examines the dynamic linkages between commonality in liquidity in international stock markets and market volatility. Using a recently proposed liquidity measure as input in a variance decomposition exercise, we show that innovations to liquidity in most markets are induced predominately by inter-market innovations. We also find that commonality in liquidity peaks immediately after large market downturns, coinciding with periods of crisis. The results from a dynamic Granger causality test indicate that the relationship between commonality in liquidity and market volatility is bi-directional and time-varying. We show that while volatility Granger-causes commonality in liquidity throughout the entire sample period, market volatility is enhanced by commonality in liquidity only in sub-periods. Our results are helpful for practitioners and policy makers. |
| Keywords: | Systemic Liquidity, Market Liquidity, Spillover Index, Granger Causality, Financial Crisis, Variance Decomposition JEL classification:C10, C32, G01, G15 |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:ira:wpaper:201916&r=all |
| By: | Lisha Lin; Yaqiong Li; Rui Gao; Jianhong Wu |
| Abstract: | In the paper, the pricing of Quanto options is studied, where the underlying foreign asset and the exchange rate are correlated with each other. Firstly, we adopt Bayesian methods to estimate unknown parameters entering the pricing formula of Quanto options, including the volatility of stock, the volatility of exchange rate and the correlation. Secondly, we compute and predict prices of different four types of Quanto options based on Bayesian posterior prediction techniques and Monte Carlo methods. Finally, we provide numerical simulations to demonstrate the advantage of Bayesian method used in this paper comparing with some other existing methods. This paper is a new application of the Bayesian methods in the pricing of multi-asset options. |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1910.04075&r=all |
| By: | Offermann, Frank; Forstner, Bernhard |
| Abstract: | Financial reserves are an important component of farms’ risk management. A tax incentive for the establishment of reserves in agriculture is demanded by various parties, particularly against the background of an increase of extreme weather events. The proposals differ considerably. This report provides an updated and comparative assessment of different design options, and takes a closer look at models that build on the Forest Damage Compensation Act, the proposal of the German Farmers’ Association, as well as the reserve formation from direct payments. The analysis of the situation and the objectives shows that the hypothesis of reserves in agriculture being generally and systematically too low cannot be substantiated on the basis of the available data. The discussion of tax issues highlights a number of challenges that tax-based promotion of the establishment of reserves must meet in order to comply with tax and competition law requirements. These include, in particular, the commitment of the funds to a special reserve account, the limitation of interest income resulting from a longer or indefinite duration of the reserve and the limitation of the tax-based compensation to agricultural risks through appropriate provisions for the establishment and liquidation of the reserve. For all examined models, tax advantages and thus the incentive for additional reserve formation are low on average due to existing, partly agricultural-specific, tax regimes that smooth the income tax burden. However, there are big differences between the farms. Above all successful farms, which even without the benefits from the tax regulation have free financial resources for the establishment of a reserve, as well as farmers with high non-agricultural income, will benefit. The incentive effect created by a fiscal support measure to build up liquidity reserves is likely to be largely ineffective for low-income farms. In the case of restrictive conditions for the establishment and liquidation of a tax-privileged reserve, which is characteristic for models designed according to the Forest Damage Compensation Act, the tax incentive for additional reserves comes at the price of restricted access to the farm's own liquidity and lost benefits from alternative investments. This limits the acceptance of such a risk reserve. The waiver of a specific reserve account and the broad, non-specific list of occasions justifying a favoured liquidation of reserves in the proposal of the German Farmers’ Association do not meet the requirements for a goal-oriented, effective and efficient promotion of a liquidity reserve. Channelling part of the direct payments to a reserve account in economically good years can in principle increase the contribution of direct payments to risk management. However, even with this approach, the contribution to improving liquidity in times of crisis is low in many farms, as significant subsidized reserves can only be created in farms that manage large land areas and therefore receive high direct payments. |
| Keywords: | Agricultural Finance |
| Date: | 2019–10–10 |
| URL: | http://d.repec.org/n?u=RePEc:ags:jhimwp:294005&r=all |