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Applications of extreme value theory to collateral valuation

Author

Listed:
  • Garcia, Alejandro

    () (Bank of Canada)

  • Gencay, Ramazan

    () (Department of Economics Simon Fraser University)

Abstract

In this paper we examine how the use of extreme value theory yields collateral requirements that are robust to extreme fluctuations in the market price of the asset used as collateral. These requirements are robust in the sense that they are able to adjust to reflect the tail behavior of the return distribution of the asset pledged as collateral. In particular, we study the risk and cost attributes of market risk measures by constructing a risk-cost frontier for the collateral pledged to cover exposures in a securities settlement system. The frontier can be used as a diagnostic tool to understand the risk-cost trade-off of different methodologies to calculate collateral value (haircuts) and select the most efficient alternative in a variety of settings

Suggested Citation

  • Garcia, Alejandro & Gencay, Ramazan, 2007. "Applications of extreme value theory to collateral valuation," Journal of Financial Transformation, Capco Institute, vol. 20, pages 88-93.
  • Handle: RePEc:ris:jofitr:0950
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    Cited by:

    1. Matt Davison & Darrell Leadbetter & Bin Lu & Jane Voll, 2016. "Are Counterparty Arrangements in Reinsurance a Threat to Financial Stability?," Staff Working Papers 16-39, Bank of Canada.

    More about this item

    Keywords

    Collateral under extreme events; High frequency finance; Financial risk management; Extreme value theory; Risk measures;

    JEL classification:

    • C10 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - General
    • C14 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Semiparametric and Nonparametric Methods: General
    • C16 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Econometric and Statistical Methods; Specific Distributions
    • C46 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics - - - Specific Distributions

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