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Systemic risk tradeoffs and option prices

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  • Madan, Dilip B.
  • Schoutens, Wim

Abstract

Two new indices for financial diversity are proposed. The first is aggregative and evaluates distance from a single factor driving returns. The second evaluates how fast correlation with a stock rises as the stock falls. Both measures are here risk neutral. The CRI is also compared with coVaR. These measures are negatively related and so focus attention on different aspects of systemic risk. Unlike the coVaR focused on expected losses the CRI measures the risks of increased correlation and lack of diversity in activities. The CRI also declined consistently for AIG and LEH prior to their bankruptcies indicating that the market was active in decorrelating itself from these firms.

Suggested Citation

  • Madan, Dilip B. & Schoutens, Wim, 2013. "Systemic risk tradeoffs and option prices," Insurance: Mathematics and Economics, Elsevier, vol. 52(2), pages 222-230.
    • Handle: RePEc:eee:insuma:v:52:y:2013:i:2:p:222-230
    DOI: 10.1016/j.insmatheco.2012.12.003
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    Cited by:

    1. Dilip B. Madan, 2016. "Conic Portfolio Theory," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 19(03), pages 1-42, May.
    2. Daniël Linders & Jan Dhaene & Wim Schoutens, 2015. "Option prices and model-free measurement of implied herd behavior in stock markets," International Journal of Financial Engineering (IJFE), World Scientific Publishing Co. Pte. Ltd., vol. 2(02), pages 1-35.
    3. Ching-Hsue Cheng & Ssu-Hsiang Wang, 2015. "A quarterly time-series classifier based on a reduced-dimension generated rules method for identifying financial distress," Quantitative Finance, Taylor & Francis Journals, vol. 15(12), pages 1979-1994, December.
    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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