Level Of Systemic Risk Research Articles

Reconstructing and Stress Testing Credit Networks

Financial networks are an important source of systemic risk, but often only partial network information is available. In this paper, we use data on bank-firm credit relationships in Japan and conduct a horse race between different network reconstruction methods in terms of their ability to reproduce the actual credit networks. We then compare the different reconstruction methods in terms of their implied systemic risk levels. In most instances we find that the observed credit network significantly displays the highest systemic risk level. Lastly, we explore different policies to improve the robustness of the system.

How Did Short Sale Ban Affect German Capital Market Risk?

The problem of short sale is a popular issue of stock trading and efficiency of pricing. Most regulatory authorities around the world adopted in the period 2007–2010 ad hoc bans on short selling. This paper provides an examination of an impact of the short sale regulation on the German capital market during crisis period 2008–2010. The purpose is to identify effects of the short sale regulation on level of systematic risk on German capital market and to investigate the discovery of stock prices of German blue chips at the period from May 2007 to April 2011 and three sub periods which demonstrate different regulatory approach to naked short sale regulation. The results suggest that short sale ban affects the level of systematic risk in the German market and prolongs a price reaction on new information. Further, short sale ban limits activities of investors with bearish view. After adoption of short sale ban the level of systematic risk increases and not only banned stocks are affected by the regulation. Finally, at the analyzed period the problem of negative information corporation in stock prices has arisen. Thereafter, the short sale ban is lifted the level of systematic risk decrease and there are not significant differences for banned and not banned stocks. Further, the price efficiency measured by autocorrelation also decreased after ban is lifted.

Influence of the Industrial Structure of Economy on the Risk Level of Russian Regions' Tax Systems

The paper is aimed at study of the influence of industrial structure of regional economy on its tax system risk level. The tax systems risk level of Russian regions in 2006 – 2014 was assessed applying the H. Markowitz portfolio approach under the assumption that regional “portfolio” consists of main economic activities. It allowed us to evaluate contribution of various economic activities to total tax system risk, to decompose it into internal and external by origin and to identify the critical zones of instability in Russian regions. The coefficients of variation of tax yield rate revealed different relative impact of the economic activities on instability of regional tax systems. Besides, we found mainly positive albeit changing in strength correlation between internal and total tax system risk level and tax yield rate in economic activities. The diversification level of regional economies was evaluated by means of standard deviation of regional industrial structure from country structure considered as a benchmark. Inclusion of this level along with the tax yield rate and a set of control variables into two developed regressions estimated with GRP‑weighted least‑square method allowed us to confirm positive influence of diversification on the tax systems stability. Our results may be applicable to management of tax system risks at the regional level.

Beta dispersion and portfolio returns

As any well-versed investor should know, there are many ways in which beta can be calculated based on factors such as the choice of time interval and market proxy used in the estimation process. Of course, this can lead to wide variation in beta estimates reported through publication sources. In this paper, we create portfolios based on the dispersion in the estimate of 27 different beta calculations. Defining stocks with higher variation in their beta estimates as higher risk, and consistent with risk-return theory, we find that portfolios of stocks with high dispersion across beta estimates outperform portfolios of stocks with low dispersion regardless of their level of systematic risk.

Measuring bank contagion in Europe using binary spatial regression models

The recent European sovereign debt crisis clearly illustrates the importance of measuring the contagion effects of bank failures. Indeed, to better understand and monitor contagion risk, the European Central Bank has assumed the supervision of the largest banks in each of the member states. We propose a measure of contagion risk based on the spatial autocorrelation parameter of a binary spatial autoregressive model. Using different specifications of the interbank connectivity matrix, we estimate the contagion parameter for banks within the Eurozone, between 1996 and 2012. We provide evidence of high levels of systemic risk due to contagion during the European sovereign debt crisis.

Measuring systemic risk across financial market infrastructures

We measure systemic risk in the network of financial market infrastructures (FMIs) as the probability that two or more FMIs have a large credit risk exposure to a common FMI participant. We construct indicators of credit risk exposures in three main Canadian FMIs and use multivariate extreme value methods to estimate this probability. We find large differences in the levels of systemic risk across participants. Conditional on the participant being distressed, we re-estimate these probabilities and find that some participants create large exposures to FMIs, resulting in a larger level of systemic risk than the rest of the participants. Our results suggest that an appropriate oversight of FMIs may benefit from an in-depth system-wide analysis, which may have useful implications for the macroprudential regulation of the financial system.

Measuring the systemic risk in the South African banking sector

Background: In the aftermath of the sub-prime crisis, systemic risk has become a greater priority for regulators, with the National Treasury (2011) stating that regulators should proactively monitor changes in systemic risk.Aim: The aim is to quantify systemic risk as the capital shortfall an institution is likely to experience, conditional to the entire financial sector being undercapitalised.Setting: We measure the systemic risk index (SRISK) of the South African (SA) banking sector between 2001 and 2013.Methods: Systemic risk is measured with the SRISK.Results: Although the results indicated only moderate systemic risk in the SA financial sector over this period, there were significant spikes in the levels of systemic risk during periods of financial turmoil in other countries. Especially the stock market crash in 2002 and the subprime crisis in 2008. Based on our results, the largest contributor to systemic risk during quiet periods was Investec, the bank in our sample which had the lowest market capitalisation. However, during periods of financial turmoil, the contributions of other larger banks increased markedly.Conclusion: The implication of these spikes is that systemic risk levels may also be highly dependent on external economic factors, in addition to internal banking characteristics. The results indicate that the economic fundamentals of SA itself seem to have little effect on the amount of systemic risk present in the financial sector. A more significant relationship seems to exist with the stability of the financial sectors in foreign countries. The implication therefore is that complying with individual banking regulations, such as Basel, and corporate governance regulations promoting ethical behaviour, such as King III, may not be adequate. It is therefore proposed that banks should always have sufficient capital reserves in order to mitigate the effects of a financial crisis in a foreign country. The use of worst-case scenario analyses (such as those in this study) could aid in determining exactly how much capital banks could need in order to be considered sufficiently capitalised during a financial crisis, and therefore safe from systemic risk.

Une évaluation des effets des politiques monétaires non conventionnelles sur le coût de crédit aux entreprises dans la zone euro

The aim of this paper is to assess the effects of unconventional monetary policies (UMPs) on the cost of credit to non-financial companies in the eurozone. We analyse the direct effects of these UMPs using a multiple linear regression, then we seek to highlight the existence of a complementarity between these policies and the interest rate policy - an indirect effect of UMPs - using an interaction term. We show that the direct effects of UMPs are limited, indeed nil depending on the country, and are always weaker than their indirect effects. After having highlighted the heterogeneity of the indirect effects of UMPs in the eurozone, we offer diverse interpretations – macroeconomic, financial or banking differences, depending on the country – using a Panel Conditionally Homogenous VAR model (PCHVAR). The indirect effects of UMPs, depending on the economies considered, were countered by large public debt, a banking sector in poor health and/or a high level of systemic risk or risk of default.

Realized bank risk during the great recession

We find that certain bank characteristics—aggressive credit growth, less reliance on deposit funding, and size—prior to the 2007−2009 crisis are consistently related to the systemic dimensions of bank risk during the crisis. Exposures to real estate play a major role explaining this relationship: Banks with larger real estate betas exhibited higher levels of systemic risk during the crisis. The impact of real estate betas on systemic risk increases for larger banks, following aggressive credit growth policies in the presence of housing bubbles. We show that the relationship between bank characteristics and risk could also be detected using measures of systemic risk calculated prior to the financial crisis.

Mutual fund skill in timing market volatility and liquidity

AbstractWe investigate both market volatility timing and market liquidity timing for the first time among UK mutual funds. We find strong evidence that a small percentage of funds time market volatility successfully, that is, when conditional market volatility is higher than normal, systematic risk levels are lower. The evidence around market liquidity timing ability is similar although it is slightly less prevalent compared to volatility timing. Here, funds lower the fund market beta in anticipation of reduced market liquidity. We also find a positive relation between liquidity timing ability and fund abnormal performance where skilled liquidity timers outperform unskilled timers by around 3% p.a.—though this finding is driven by poor liquidity timing funds going on to yield negative alpha. However, despite the evidence of volatility and liquidity timing ability among funds, we fail to find in support of persistence in this timing. We find little evidence supporting market return timing ability.

Особливості формування раціональної поведінки учасників фінансового ринку

The main premise of the hypothesis of an efficient market is the assumption that the market participants behave rationally, which is, accordingly, the basis for the development of other theories, but in practice, it is much more difficult to apply when it comes to monitoring investors' behavior. It should be noted that, according to the theory, investors are characterized by homogeneity, and it is assumed that all market participants are guided by the rationality of using all the information received, having the same tools for assessing the current and future situation. From the assumption of the rationality of behavior, it follows from the need to recognize the assumption of the rationality of expectations (predictions), since participants in the financial market function rationally, therefore, they should also rationally predict the future. Specification of the model of rational expectations of the subject corresponds to the principles of the process of specification of predictive models (predictions). Depending on the choice of the dependent variable (endogenous), the choice of independent (exogenous) variables is performed, as well as the nature of the model. In practice, very different models are often used simultaneously: from classical linear models with one-level or multi-level structure to complex multi-dimensional models of random variables. In the most general form among the explanatory variables one can distinguish: a dependent variable (endogenous) taken with a one-time time advance in predictive models; Dependent variable (endogenous) during different time periods in dynamic regression models; Exogenous variables affecting or correlated with a dependent variable, in structural causation models or symptomatic ones. The rational expectation hypothesis implies that all market participants are guided by rationality in their actions and capable of rational predictions based on the same amount of available information, using the same scheme of considerations or formal model, and, consequently, obtain the same result. Consequently, the hypothesis of an efficient market over a long period of time was the dominant concept that explained the behavior of financial markets, shaped the relation to the possibility of forecasting financial markets and served as a methodological basis for the development of tools for forecasting in financial markets. However, current trends in the modification of financial markets functioning mechanisms have demonstrated accumulation of the critical level of systemic risk, under conditions of underestimation of moral risks by market participants, their high speculative activity and asymmetry of information, rationality of their behavior and expectations.

The timing of new corporate debt issues and the risk-return tradeoff

The Modigliani–Miller theorem serves as the standard finance paradigm on corporate capital structure and managerial decision making. Implicitly, it is assumed that the market possesses full information about the firm. However, if firm managers have insider information, they may attempt to ‘signal’ changes in the firm’s financial structure and, in competitive equilibrium, shareholders will draw deductions from such signals. Empirical work shows that the value of underlying firms rises with leverage because investors expect such firms to implement positive NPV projects. We empirically examine this view using a sample of debt issue announcements by publicly traded firms listed on the London Stock Exchange. We argue that the timing of debt issues is fundamental in determining the relationship between leverage and risk-adjusted returns. We show that an announcing firm’s intrinsic value may not rise depending on when management publicly ‘signals’ changes in their firm’s capital structure. Specifically, we show that risk-adjusted returns rise positively for firms that make debt announcements during normal economic conditions while they tend to decline for firms making debt announcements during recessionary periods. During recessionary periods, market risk and loss aversion rise and investors focus less on the potential growth of debt announcing firms and focus more on potential losses instead. We conclude that the timing of new debt is of paramount importance and managers’ inability to prudently time such announcements can lead to exacerbated levels of systematic risk coupled with a significant erosion in shareholder wealth.

Uncorporates: changes in master limited partnerships

PurposeThe purpose of this paper is to examine how major changes in an industry may differentially affect firms based on their organizational structure. The authors examine midstream oil and gas firms, comparing master limited partnerships (MLPs or uncorporates) with more traditional midstream corporate firms when the industry changed from one that was considered mature to a more rapid growth industry.Design/methodology/approachNon-parametric comparisons of returns, distributions, and operating ratios are presented across the two organizational forms and across two distinct industry activity periods. The risk-adjusted return analysis, including Fama and French factors, incorporates a wild bootstrap to address heteroscedasticity in the data.FindingsIn the industry’s mature market period, partnerships provided a significantly greater payout, return, return on equity (ROE), cash flow, and lower leverage, while exhibiting lower levels of systematic risk than corporations. In the later growth period, midstream corporations and partnerships are no longer significantly different in their returns, ROE or margins. MLPs now have significantly higher leverage levels, while continuing to provide significantly higher dividend payouts.Originality/valueThe paper contributes to the literature with an analysis of the effects of a changing industry environment on two different organizational types across a common industry. The authors find that the optimal organizational structure may be dependent on the environment. The findings during the initial period are consistent with prior research comparing publicly traded partnerships and corporations. During the growth phase, the findings lend support to the seminal literature with respect to corporations potentially best-suited to “growth” industries, while highlighting specific results by organizational form.

Information contagion and systemic risk

We examine the effect of ex-post information contagion on the ex-ante level of systemic risk defined as the probability of joint bank default. Because of counterparty risk or common exposures, bad news about one bank reveals valuable information about another bank, triggering information contagion. When banks are subject to common exposures, information contagion induces small adjustments to bank portfolios and therefore increases overall systemic risk. When banks are subject to counterparty risk, by contrast, information contagion induces a large shift toward more prudential portfolios, thereby reducing systemic risk.

Research on the method of information system risk state estimation based on clustering particle filter

AbstractWith the purpose of reinforcing correlation analysis of risk assessment threat factors, a dynamic assessment method of safety risks based on particle filtering is proposed, which takes threat analysis as the core. Based on the risk assessment standards, the method selects threat indicates, applies a particle filtering algorithm to calculate influencing weight of threat indications, and confirms information system risk levels by combining with state estimation theory. In order to improve the calculating efficiency of the particle filtering algorithm, the k-means cluster algorithm is introduced to the particle filtering algorithm. By clustering all particles, the author regards centroid as the representative to operate, so as to reduce calculated amount. The empirical experience indicates that the method can embody the relation of mutual dependence and influence in risk elements reasonably. Under the circumstance of limited information, it provides the scientific basis on fabricating a risk management control strategy.

Abnormal mRNA Expression Levels of Telomere-Binding Proteins Represent Biomarkers in Myelodysplastic Syndromes: A case control study

Objective:As evidence was shown that abnormal shortening of telomeres begins to accumulate in myelodysplastic syndrome (MDS) patients, this study was conducted to determine the relationship between the mRNA expression levels of telomere-binding proteins (TRF1/TRF2/TIN2/TPP1/POT1/RAP1) and the risk level in MDS.Materials and Methods:There were 40 patients with MDS and 40 normal controls in this study. Methods including telomere content assays and quantitative reverse transcription-polymerase chain reaction were used to examine the mRNA levels of TRF1/TRF2/TIN2/TPP1/POT1/RAP1 in patients with MDS.Results:Compared to the normal group used as a control, the mRNA expression levels of RAP1/POT1/TPP1 of the patients with MDS were decreased, whereas their levels of TRF1/TRF2 and TIN2 were increased. A positive correlation was found between the TRF1, TRF2, and TIN2 mRNA expression levels and the risk level of the International Prognostic Scoring System (IPSS) and the World Health Organization Prognostic Scoring System (WPSS) criteria; however, a negative correlation was found between RAP1/POT1/TPP1 mRNA expression levels and the risk levels of IPSS and WPSS criteria.Conclusion:Because the reduction of TRF1/TRF2/TIN2 mRNA expression and the increase of RAP1/POT1/TPP1 mRNA expression are closely related to the risk levels of the IPSS and WPSS criteria in MDS, it is thought that these telomere-binding proteins could lead to abnormal telomere length and function, which cause chromosomal abnormalities in MDS. With this evidence, we suggest that those proteins’ mRNA expressions could be used as biomarkers for the assessment of the risk degree of MDS patients.

Risk Assessment for Distribution Systems Using an Improved PEM-Based Method Considering Wind and Photovoltaic Power Distribution

The intermittency and variability of permeated distributed generators (DGs) could cause many critical security and economy risks to distribution systems. This paper applied a certain mathematical distribution to imitate the output variability and uncertainty of DGs. Then, four risk indices—EENS (expected energy not supplied), PLC (probability of load curtailment), EFLC (expected frequency of load curtailment), and SI (severity index)—were established to reflect the system risk level of the distribution system. For the certain mathematical distribution of the DGs’ output power, an improved PEM (point estimate method)-based method was proposed to calculate these four system risk indices. In this improved PEM-based method, an enumeration method was used to list the states of distribution systems, and an improved PEM was developed to deal with the uncertainties of DGs, and the value of load curtailment in distribution systems was calculated by an optimal power flow algorithm. Finally, the effectiveness and advantages of this proposed PEM-based method for distribution system assessment were verified by testing a modified IEEE 30-bus system. Simulation results have shown that this proposed PEM-based method has a high computational accuracy and highly reduced computational costs compared with other risk assessment methods and is very effective for risk assessments.

Banking Crisis and the Japanese Legal Framework

This paper presents an overview of the Japanese system to deal with the distress of banks, providing a classification of the regulation and remedies based on the level of systemic risk of the troubled entity. The paper differentiates between the types of actions available and analyses in detail the instruments and their application. While the regulation is disperse and its apprehension is complicated for a foreign reader, Japan counts on a modern, thorough and adequate group of institutions and instruments to tackle bank distress. Its most notable feature is the proportionality of measures and the flexibility enjoyed by a resolution authority that may accommodate its intervention to the characteristics of the case and the degree of contagion risk. Although mainly inspired by the American model, the system is compared with the new European framework and FSB recommendations are considered. Although a few elements could be reconsidered, its high institutional level and flexibility make the Japanese system one capable of dealing with financial crises at both national and international levels.

Bank systemic risk and corporate investment: Evidence from the US

In this paper, we develop a simple two-period model in which a bank’s investment (e.g., loans) is influenced by short-term financing and a probability of a financial crisis. When banks ex ante expect to be bailed out during financial crises, they do not necessarily internalize the cost of financial crises and invest more. We argue that the level of systemic risk in the banking sector is largely driven by (1) the way in which banks finance their investment (e.g., loans) using more short-term debt and/or (2) the increase in asset commonality amongst banks. We use three measures that arguably capture two dimensions of “bank systemic risk”, namely, (1) bank funding maturity and (2) bank asset commonality, to empirically test whether bank systemic risk has a positive effect on corporate investment. We document that in a sample of publicly listed firms in the United States over the period 1991–2013, bank systemic risk is positively associated with the firm-level investment ratio after controlling for a large set of country- and firm-level variables. In addition, we show that a firm's leverage strengthens the positive effect of bank systemic risk on corporate investment, suggesting that more financially constrained firms experience a larger effect of bank systemic risk on corporate investment than less financially constrained firms.

A framework for analyzing contagion in assortative banking networks.

We introduce a probabilistic framework that represents stylized banking networks with the aim of predicting the size of contagion events. Most previous work on random financial networks assumes independent connections between banks, whereas our framework explicitly allows for (dis)assortative edge probabilities (i.e., a tendency for small banks to link to large banks). We analyze default cascades triggered by shocking the network and find that the cascade can be understood as an explicit iterated mapping on a set of edge probabilities that converges to a fixed point. We derive a cascade condition, analogous to the basic reproduction number R0 in epidemic modelling, that characterizes whether or not a single initially defaulted bank can trigger a cascade that extends to a finite fraction of the infinite network. This cascade condition is an easily computed measure of the systemic risk inherent in a given banking network topology. We use percolation theory for random networks to derive a formula for the frequency of global cascades. These analytical results are shown to provide limited quantitative agreement with Monte Carlo simulation studies of finite-sized networks. We show that edge-assortativity, the propensity of nodes to connect to similar nodes, can have a strong effect on the level of systemic risk as measured by the cascade condition. However, the effect of assortativity on systemic risk is subtle, and we propose a simple graph theoretic quantity, which we call the graph-assortativity coefficient, that can be used to assess systemic risk.