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Systemic risk analysis using forward-looking distance-to-default series

Listed author(s):
  • Martin Saldías Zambrana

Based on contingent claims theory, this paper develops a method to monitor systemic risk in the European banking system. Aggregated Distance-to-Default series are generated using option prices information from systemically important banks and the DJ STOXX Banks Index. These indicators provide methodological advantages in monitoring vulnerabilities in the banking system over time: 1) they capture interdependences and joint risk of distress in systemically important banks; 2) their forward-looking feature endow them with early signaling properties compared to traditional approaches in the literature and other market-based indicators; and 3) they produce simultaneously both smooth and informative long-term signals and quick and clear reaction to market distress.

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Paper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 1005.

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Date of creation: 2010
Handle: RePEc:fip:fedcwp:1005
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