Finance Seminar: Rama Cont, Imperial College London

Title: Fire Sales, Indirect Contagion and Systemic Stress Testing

2017.06.21 | Bodil Westermann Krog

Date Thu 21 Sep
Time 14:15 15:15
Location Fuglesangs Allé 4, 8210 Aarhus V, building 2632(L), room 242

Speaker: Rama Cont, Imperial College London

Title: Fire Sales, Indirect Contagion and Systemic Stress Testing (joint work with Eric Finn Schaanning,  Norges Bank; Imperial College London)

Abstract: We present an operational framework for quantifying the impact of deleveraging in stress scenarios by financial institutions subject to portfolio constraints. Market impact of portfolio deleveraging in stress scenarios leads to price-mediated contagion across institutions with similar holdings. We show that this loss contagion may be quantified through "liquidity-weighted overlaps" across portfolios and leads to indirect exposures to asset classes.
     Using data on European banks, we show that such indirect contagion effects may modify the outcome of bank stress tests and lead to heterogeneous bank-level losses which cannot be replicated in a stress test without deleveraging effects.
     Our methodology distinguishes insolvency from illiquidity and leads to substantially different loss estimates compared to models based on 'leverage targeting'.

Area of Research: Mathematical Finance

Organizers: Paolo Santucci de Magistris and Agatha Murgoci

Finance and Accounting Seminar Series
14304 / i32