nep-rmg New Economics Papers
on Risk Management
Issue of 2020‒01‒06
seventeen papers chosen by

  1. Pareto models for risk management By Arthur Charpentier; Emmanuel Flachaire
  2. The Generalisation of the DMCA Coefficient to Serve Distinguishing Between Hedge and Safe Haven Capabilities of the Gold By Mohamed Arbi Madani; Zied Ftiti
  3. Capital regulations and the management of credit commitments during crisis times By Paul Pelzl; María Teresa Valderrama
  4. The Valuation of Credit Default Swap with Counterparty Risk and Collateralization By Xiao, Tim
  5. Ukraine; Technical Assistance Report-State-Owned Enterprises–Fiscal Risk Management By International Monetary Fund
  7. Background Risk and Insurance Take-up under Limited Liability By Gilad Sorek; T. Randolph Beard
  8. Identification of a class of index models: A topological approach By Mogens Fosgerau; Dennis Kristensen
  9. Risk on-Risk off: A regime switching model for active portfolio management By José P. Dapena; Juan A. Serur; Julián R. Siri
  10. A Dynamic Default Contagion Model: From Eisenberg-Noe to the Mean Field By Zachary Feinstein; Andreas Sojmark
  11. Long-run risk sensitive impulse control By Damian Jelito; Marcin Pitera; {\L}ukasz Stettner
  12. Compliance effects of risk-based tax audits By Torsvik, Gaute; Raaum, Oddbjørn; Løyland, Knut; Øvrum, Arnstein
  13. Oil and other energy commodities By Syed Abul, Basher
  14. Generative Synthesis of Insurance Datasets By Kevin Kuo
  15. Ukraine; Technical Assistance Report-Strengthening Budget Formulation and Fiscal Risk Management By International Monetary Fund
  16. Multivariate Systemic Optimal Risk Transfer Equilibrium By Alessandro Doldi; Marco Frittelli
  17. Liquidity and tail-risk interdependencies in the euro area sovereign bond market By Clancy, Daragh; Dunne, Peter G.; Filiani, Pasquale

  1. By: Arthur Charpentier; Emmanuel Flachaire
    Abstract: The Pareto model is very popular in risk management, since simple analytical formulas can be derived for financial downside risk measures (Value-at-Risk, Expected Shortfall) or reinsurance premiums and related quantities (Large Claim Index, Return Period). Nevertheless, in practice, distributions are (strictly) Pareto only in the tails, above (possible very) large threshold. Therefore, it could be interesting to take into account second order behavior to provide a better fit. In this article, we present how to go from a strict Pareto model to Pareto-type distributions. We discuss inference, and derive formulas for various measures and indices, and finally provide applications on insurance losses and financial risks.
    Date: 2019–12
  2. By: Mohamed Arbi Madani; Zied Ftiti
    Abstract: This paper aims to investigate the role of gold as a hedge and/or safe haven against oil price and currency market movements for medium (calm period) and large (extreme movement) fluctuations. In revisiting the role of gold, our study proposes new insights into the literature. First, our empirical design relaxes the assumption of homogeneous investors in favour of agents with different horizons. Second, we develop a new measure of correlation based on the fractal approach, called the q-detrending moving average cross-correlation coefficient. This allows us to measure the dependence for calm and extreme movements. The proposed measure is both time-varying and time-scale varying, taking into account the complex pattern of commodities and financial time series (chaotic, non-stationary, etc.). Using intraday data from May 2017 to March 2019, including 35608 observations for each variable, our results are as follows. First, we show a negative and significant average and tail dependence for all time scales between gold and USD exchange rates that is consistent with the gold's role as an effective hedge and safe-haven asset. Second, this study puts out average independence and positive and significant tail independence between gold and oil indicating that gold can be used by investors as a weak hedge but cannot be used as an effective safe-haven asset under exceptional market circumstances for all time scales. Third, we examine the hedging and stabilising benefits of gold over calm and turmoil periods for gold-oil futures and gold-currency portfolios by estimation of the optimal portfolio weights and the optimal hedge ratio. We confirm the usefulness of gold for hedging and safe havens at different investment horizons, which favors the inclusion of gold futures in oil futures and currency portfolios for risk management purposes.
    Date: 2019–12
  3. By: Paul Pelzl; María Teresa Valderrama
    Abstract: Drawdowns on credit commitments by firms reduce a bank's regulatory capital ratio. Using the Austrian Credit Register, we provide novel evidence that during the 2008-09 financial crisis, capital-constrained banks managed this concern by substantially cutting partly or fully unused credit commitments. Controlling for a bank's capital position, we also find that greater liquidity problems induced banks to considerably cut such credit commitments during the crisis. These results suggest that banks actively manage both capital and liquidity risk caused by undrawn credit commitments in periods of financial distress, but thereby reduce liquidity provision to firms exactly when they need it most.
    Keywords: Capital Regulations; Credit Commitments; Financial Crisis
    JEL: E51 G01 G21 G28 G32
    Date: 2019–12
  4. By: Xiao, Tim
    Abstract: This article presents a new model for valuing a credit default swap (CDS) contract that is affected by multiple credit risks of the buyer, seller and reference entity. We show that default dependency has a significant impact on asset pricing. In fact, correlated default risk is one of the most pervasive threats in financial markets. We also show that a fully collateralized CDS is not equivalent to a risk-free one. In other words, full collateralization cannot eliminate counterparty risk completely in the CDS market.
    Date: 2019–05–01
  5. By: International Monetary Fund
    Abstract: Good progress has been made in improving the disclosure and management of fiscal risks since the embedding of fiscal risks in the Budget Code in December 2018, including: • Development of a resolution setting out procedures for assessing different fiscal risks, which was being considered by the Cabinet of Ministers of the Ukraine; • An order to establish sanctions where required information is not submitted has been drafted but has not yet been submitted for approval; • The electronic system for gathering SOE data is now operational; • An action plan for enhancing fiscal risk management over the medium term (including creating a fiscal risk register (Q2 2020), and a fiscal risk management committee in the MoF (Q2 2021)) has been developed.
    Keywords: Risk management;Financial statements;Fiscal risk;Fiscal management;Financial institutions;ISCR,CR,Naftogaz,SOEs,scenario analysis,financial plan,financial model
    Date: 2019–12–06
  6. By: Putra, Yanda Eka; Susanto, Romi
    Abstract: The purpose of this study was to find out how the analysis of the application of credit risk management of PT. BPR Lengayang branch Surantih. The research method used is the method of data analysis qualitative. The type of data used is secondary data obtained from Bank Indonesia and rural banks (BPR) Lengayang branch Surantih. The results of this study indicate that bad credit that occurs is caused by economic factors in the region that are not stable and weather factors do not occur.
    Date: 2019–05–01
  7. By: Gilad Sorek; T. Randolph Beard
    Abstract: We study the effect of a non-insurable background risk (BGR) on insurance take-up choices over insurable risks made by risk-averse agents under limited liability laws. This economic environment applies, for example, to the consumer’s decision to purchase medical insurance in the face of non-insurable income risk under limited liability provided by bankruptcy. We consider two types of BGR - a wealth deteriorating risk and a mean-preserving risk. We show that the magnitude of both BGR types has a non-monotonic effect on the rate of uninsured consumers. This is in contrast with the standard monotonic effect of background risk on the demand for insurance, obtained for risk-averse agents under full liability.
    Keywords: Insurance take-up; Bankruptcy; Background Risk
    JEL: I38
    Date: 2019–12
  8. By: Mogens Fosgerau (Institute for Fiscal Studies and University of Copenhagen); Dennis Kristensen (Institute for Fiscal Studies and University College London)
    Abstract: We establish nonparametric identification in a class of so-called index models using a novel approach that relies on general topological results. Our proof strategy imposes very weak smoothness conditions on the functions to be identified and does not require any large support conditions on the regressors in our model. We apply the general identification result to additive random utility and competing risk models.
    Date: 2019–10–15
  9. By: José P. Dapena; Juan A. Serur; Julián R. Siri
    Abstract: Unlike passive management, where investors almost do not buy and sell securities, active management involves a set of trading rules that govern investment decisions regarding mainly market timing. In this paper, we take the basics of active management and the two fund separation approach, to exploit the fact that an investor can switch between the market portfolio and the risk free asset according to the perceived state of the nature. Our purpose is to evaluate if there is an active management premium by testing performance with our own non-conventional multifactor model, constructed with a Hidden Markov Model which depending on the market states signaled by the level of volatility spread. We have documented that effectively, there is present a premium for actively manage the strategies, giving evidence against the idea that “active managers” destroy capital. We then propose the volatility spread as the active management factor into the Carhart´s model used to evaluate trading strategies with respect to a benchmark portfolio.
    Keywords: Regime switching, active investment, two fund separation, excess returns, hidden markov model, VIX.
    JEL: C1 C3 N2 G11
    Date: 2019–12
  10. By: Zachary Feinstein; Andreas Sojmark
    Abstract: In this work we introduce a model of default contagion that combines the approaches of Eisenberg-Noe interbank networks and dynamic mean field interactions. The proposed contagion mechanism provides an endogenous rule for early defaults in a network of financial institutions. The main result is to demonstrate a mean field interaction that can be found as the limit of the finite bank system generated from a finite Eisenberg-Noe style network. In this way, we connect two previously disparate frameworks for systemic risk, and in turn we provide a bridge for exploiting recent advances in mean field analysis when modelling systemic risk. The mean field limit is shown to be well-posed and is identified as a certain conditional McKean-Vlasov type problem that respects the original network topology under suitable assumptions.
    Date: 2019–12
  11. By: Damian Jelito; Marcin Pitera; {\L}ukasz Stettner
    Abstract: In this paper we consider long-run risk sensitive average cost impulse control applied to a continuous-time Feller-Markov process. Using the probabilistic approach, we show how to get a solution to a suitable continuous-time Bellman equation and link it with the impulse control problem. The optimal strategy for the underlying problem is constructed as a limit of dyadic impulse strategies by exploiting regularity properties of the linked risk sensitive optimal stopping value functions.
    Date: 2019–12
  12. By: Torsvik, Gaute; Raaum, Oddbjørn; Løyland, Knut; Øvrum, Arnstein
    Abstract: Tax administrations use machine learning to predict risk scores as a basis for selecting individual taxpayers for audit. Audits detect noncompliance immediately, but may also alter future filing behavior. This analysis is the first to estimate compliance effects of audits among high-risk wage earners. We exploit a sharp audit assignment discontinuity in Norway based on individual tax payers risk score. Additional data from a random audit allow us to estimate how the audit effect vary across the risk score distribution. We show that the current risk score audit threshold is set far above the one that maximizes net public revenue.
    Date: 2019–04–12
  13. By: Syed Abul, Basher
    Abstract: This chapter provides a survey of studies concerning the relationship between crude oil prices and other energy commodities such as coal and natural gas. Although such an assessment demands an interdisciplinary approach to provide readers with important background information, the approach taken here is based upon the economics of the energy market. The empirical studies summarized here can be categorized into three groups: time series studies analyzing market integration between oil and other energy commodities, studies that examine the predictive content of futures prices for energy, and the role of tail risk in explaining price volatilities of oil and other energy commodities. Several suggestions for future research are offered.
    Keywords: Oil price, time series of energy prices, tail risk, predictive content of energy futures.
    JEL: Q41 Q47
    Date: 2019–12–09
  14. By: Kevin Kuo
    Abstract: One of the impediments in advancing actuarial research and developing open source assets for insurance analytics is the lack of realistic publicly available datasets. In this work, we develop a workflow for synthesizing insurance datasets leveraging state-of-the-art neural network techniques. We evaluate the predictive modeling efficacy of datasets synthesized from publicly available data in the domains of general insurance pricing and life insurance shock lapse modeling. The trained synthesizers are able to capture representative characteristics of the real datasets. This workflow is implemented via an R interface to promote adoption by researchers and data owners.
    Date: 2019–12
  15. By: International Monetary Fund
    Abstract: Implementing strategic planning and a medium-term budget framework (MTBF) is a core component of Ukraine’s Public Financial Management (PFM) reform strategy. A pilot MTBF conducted in 2017 formed the basis for amendments to the Budget Code in December 2018, which firmly establish a MTBF as the basis for budget preparation. The amendments also establish a legal basis for related reforms, including regular spending reviews and monitoring and managing risks to public finances.
    Keywords: Financial soundness indicators;Risk management;Fiscal policy;Budget execution;Budgetary process;ISCR,CR,MTBF,KSU,cmu,budget process,SOEs
    Date: 2019–12–06
  16. By: Alessandro Doldi; Marco Frittelli
    Abstract: A Systemic Optimal Risk Transfer Equilibrium (SORTE) was introduced in "Systemic Optimal Risk Transfer Equilibrium" for the analysis of the equilibrium among financial institutions or in insurance-reinsurance markets. A SORTE conjugates the classical B\"uhlmann's notion of an equilibrium risk exchange with a capital allocation principle based on systemic expected utility optimization. In this paper we extend such notion to the case in which the value function to be optimized has two components, one being the sum of the single agents' utility functions, the other consisting of a truly systemic component. The latter could be either enforced by an external regulator or be agreed on by the participants in the market. Technically, the extension of SORTE to the new setup requires developing a theory for multivariate utility functions and selecting at the same time a suitable framework for the duality theory. Conceptually, this more general framework allows us to introduce and study a Nash Equilibrium property of the optimizer. We prove existence, uniqueness, Pareto optimality and the Nash Equilibrium property of the newly defined Multivariate Systemic Optimal Risk Transfer Equilibrium.
    Date: 2019–12
  17. By: Clancy, Daragh (European Stability Mechanism); Dunne, Peter G. (Central Bank of Ireland); Filiani, Pasquale (Central Bank of Ireland)
    Abstract: The likelihood of severe contractions in an asset’s liquidity can feed back to the ex-ante risks faced by the individual providers of such liquidity. These self-reinforcing effects can spread to other assets through informational externalities and hedging relations. We explore whether such interdependencies play a role in amplifying tensions in European sovereign bond markets and are a source of cross-market spillovers. Using highfrequency data from the inter-dealer market, we find significant own- and cross-market effects that amplify liquidity contractions in the Italian and Spanish bond markets during times of heightened risk. The German Bund’s safe-haven status exacerbates these amplification effects. We provide evidence of a post-crisis dampening of cross-market effects following crisisera changes to euro area policies and institutional architecture. We identify a structural break in Italy’s cross-market conditional correlation during rising political tensions in 2018, which significantly reduced liquidity. Overall, our findings demonstrate potential for the provision of liquidity across sovereign markets to be vulnerable to sudden fractures, with possible implications for euro area economic and financial stability.
    Keywords: Liquidity; Tail risks; Feedback loops; Spillovers
    JEL: G01 G15 F36
    Date: 2019–10

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