A copula-based simulation model for supply portfolio risk

Abstract

We introduce a copula-based simulation model for supply portfolio risk in the presence of dependent breaches of contracts. We demonstrate our method for a supply chain contract portfolio of commodity metals traded at the London Metal Exchange (LME). The analysis of spot price data of six LME commodity metals gives us the motive to use a t-copula dependence structure with the t and the generalized hyperbolic marginals for the log-returns. We also provide an efficient simulation algorithm using importance sampling to quantify risk measures, supply-at-risk (SaR) and conditional supply-at-risk (cSaR). Numerical examples on a portfolio of six commodity metals demonstrate that our proposed method succeeds in decreasing the variance of the simulations. To our knowledge, this is the first paper proposing efficient simulation algorithms on a supply chain contract portfolio having a copula-based dependence structure with the generalized hyperbolic marginals.