Model risk and capital reserves
We propose a procedure to take model risk into account in the computation of capital reserves. This addresses the need to make the allocation of capital reserves to positions in given markets dependent on the extent to which reliable models are available. The proposed procedure can be used in combination with any of the standard risk measures, such as Value-at-Risk and expected shortfall. We assume that models are obtained by usual econometric methods, which allows us to distinguish between estimation risk and misspecification risk. We discuss an additional source of risk which we refer to as identification risk. By way of illustration, we carry out calculations for equity and FX data sets. In both markets, estimation risk and misspecification risk together explain about half of the multiplication factors employed by the Bank for International Settlements (BIS).
If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- William Brock & Steven Durlauf & Kenneth West, 2005.
"Model uncertainty and policy evaluation: some theory and empirics,"
Federal Reserve Bank of San Francisco.
- Brock, William A. & Durlauf, Steven N. & West, Kenneth D., 2007. "Model uncertainty and policy evaluation: Some theory and empirics," Journal of Econometrics, Elsevier, vol. 136(2), pages 629-664, February.
- Brock,W.A. & Durlauf,S.N. & West,K.D., 2004. "Model uncertainty and policy evaluation : some theory and empirics," Working papers 19, Wisconsin Madison - Social Systems.
- William A. Brock & Steven N. Durlauf & Kenneth D. West, 2004. "Model Uncertainty and Policy Evaluation: Some Theory and Empirics," NBER Working Papers 10916, National Bureau of Economic Research, Inc.
- Lars Peter Hansen & Thomas J. Sargent, 2007. "Introduction to Robustness," Introductory Chapters, Princeton University Press.
- Grané, A. & Veiga, H., 2008. "Accurate minimum capital risk requirements: A comparison of several approaches," Journal of Banking & Finance, Elsevier, vol. 32(11), pages 2482-2492, November.
- M.J.B. Hall, 1996. "The amendment to the capital accord to incorporate market risk," Banca Nazionale del Lavoro Quarterly Review, Banca Nazionale del Lavoro, vol. 49(197), pages 271-277.
- Heid, Frank, 2007. "The cyclical effects of the Basel II capital requirements," Journal of Banking & Finance, Elsevier, vol. 31(12), pages 3885-3900, December.
- M.J.B. Hall, 1996. "The amendment to the capital accord to incorporate market risk," BNL Quarterly Review, Banca Nazionale del Lavoro, vol. 49(197), pages 271-277.
- Kaplanski, Guy & Levy, Haim, 2007. "Basel's value-at-risk capital requirement regulation: An efficiency analysis," Journal of Banking & Finance, Elsevier, vol. 31(6), pages 1887-1906, June.
- Philippe Artzner & Freddy Delbaen & Jean-Marc Eber & David Heath, 1999. "Coherent Measures of Risk," Mathematical Finance, Wiley Blackwell, vol. 9(3), pages 203-228.
- repec:cup:cbooks:9780521496032 is not listed on IDEAS
- Frittelli, Marco & Rosazza Gianin, Emanuela, 2002. "Putting order in risk measures," Journal of Banking & Finance, Elsevier, vol. 26(7), pages 1473-1486, July.
- Hull, John & Suo, Wulin, 2002. "A Methodology for Assessing Model Risk and its Application to the Implied Volatility Function Model," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 37(02), pages 297-318, June.
- repec:att:wimass:9417 is not listed on IDEAS
- Song Xi Chen, 2008. "Nonparametric Estimation of Expected Shortfall," Journal of Financial Econometrics, Society for Financial Econometrics, vol. 6(1), pages 87-107, Winter.
- Carlo Acerbi & Dirk Tasche, 2001.
"On the coherence of Expected Shortfall,"
cond-mat/0104295, arXiv.org, revised May 2002.
- Kerkhof, F.L.J. & Melenberg, B., 2002.
"Backtesting for Risk-Based Regulatory Capital,"
2002-110, Tilburg University, Center for Economic Research.
- James J. Heckman, 2000.
"Causal Parameters And Policy Analysis In Economics: A Twentieth Century Retrospective,"
The Quarterly Journal of Economics,
MIT Press, vol. 115(1), pages 45-97, February.
- James L. Heckman, 1999. "Causal Parameters and Policy Analysis in Economcs: A Twentieth Century Retrospective," NBER Working Papers 7333, National Bureau of Economic Research, Inc.
- Denis Talay & Ziyu Zheng, 2002. "Worst case model risk management," Finance and Stochastics, Springer, vol. 6(4), pages 517-537.
- Rama Cont, 2006. "Model uncertainty and its impact on the pricing of derivative instruments," Post-Print halshs-00002695, HAL.
- Kenneth D. West, 1994.
"Asymptotic Inference About Predictive Ability,"
- Christoffersen, Peter F, 1998. "Evaluating Interval Forecasts," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(4), pages 841-62, November.
- Bongaerts, Dion & Charlier, Erwin, 2009. "Private equity and regulatory capital," Journal of Banking & Finance, Elsevier, vol. 33(7), pages 1211-1220, July.
- Hans Föllmer & Alexander Schied, 2002. "Convex measures of risk and trading constraints," Finance and Stochastics, Springer, vol. 6(4), pages 429-447.
When requesting a correction, please mention this item's handle: RePEc:eee:jbfina:v:34:y:2010:i:1:p:267-279. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Zhang, Lei)
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.