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A framework for tracking changes in the intensity of investment funds' systemic risk

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  • Jin, Xisong
  • Nadal De Simone, Francisco

Abstract

This study applies to investment funds a novel framework which combines marginal probabilities of distress estimated from a structural credit risk model with the consistent information multivariate density optimization (CIMDO) methodology and the generalized dynamic factor model (GDFM). The framework models investment funds' distress dependence explicitly and captures the time-varying non-linearities and feedback effects typical of financial markets. It measures investment funds' systemic credit risk in three forms: (1) credit risk common to all funds within each of the seven categories the Eurosystem reports to the ECB; (2) credit risk in each category of investment fund conditional on distress on another category of investment fund and; (3) the buildup of investment funds' vulnerabilities over time which may unravel disorderly. In addition, the estimates of the common components of the investment funds' distress measures contain early warning features, and the identification of their drivers is useful for macroprudential policy. The ranking of drivers of those common components in terms of importance differs from the ranking of the drivers of the common components of marginal measures of distress. This framework contributes to the formulation of macroprudential policy.

Suggested Citation

  • Jin, Xisong & Nadal De Simone, Francisco, 2014. "A framework for tracking changes in the intensity of investment funds' systemic risk," Journal of Empirical Finance, Elsevier, vol. 29(C), pages 343-368.
    • Handle: RePEc:eee:empfin:v:29:y:2014:i:c:p:343-368
    DOI: 10.1016/j.jempfin.2014.09.002
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    3. Souza, Sergio R.S. & Tabak, Benjamin M. & Silva, Thiago C. & Guerra, Solange M., 2015. "Insolvency and contagion in the Brazilian interbank market," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 431(C), pages 140-151.
    4. Silva, Walmir & Kimura, Herbert & Sobreiro, Vinicius Amorim, 2017. "An analysis of the literature on systemic financial risk: A survey," Journal of Financial Stability, Elsevier, vol. 28(C), pages 91-114.

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    More about this item

    Keywords

    Financial stability; Investment funds; Macroprudential policy; Probability of distress; Generalized dynamic factor model; Dynamic copulas;
    All these keywords.

    JEL classification:

    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • F3 - International Economics - - International Finance
    • G1 - Financial Economics - - General Financial Markets

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