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Analysis of Operational Risk of Banks - Catastrophe Modelling

Author

Listed:
  • Gabor Benedek

    () (Department of Mathematical Economics and Economic Analysis, Corvinus University of Budapest and Thesys Labs Ltd.)

  • Daniel Homolya

Abstract

Nowadays financial institutions due to regulation and internal motivations care more intensively on their risks. Besides previously dominating market and credit risk new trend is to handle operational risk systematically. Operational risk is the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events. First we show the basic features of operational risk and its modelling and regulatory approaches, and after we will analyse operational risk in an own developed simulation model framework. Our approach is based on the analysis of latent risk process instead of manifest risk process, which widely popular in risk literature. In our model the latent risk process is a stochastic risk process, so called Ornstein-Uhlenbeck process, which is a mean reversion process. In the model framework we define catastrophe as breach of a critical barrier by the process. We analyse the distributions of catastrophe frequency, severity and first time to hit, not only for single process, but for dual process as well. Based on our first results we could not falsify the Poisson feature of frequency, and long tail feature of severity. Distribution of “first time to hit” requires more sophisticated analysis. At the end of paper we examine advantages of simulation based forecasting, and finally we conclude with the possible, further research directions to be done in the future.

Suggested Citation

  • Gabor Benedek & Daniel Homolya, 2007. "Analysis of Operational Risk of Banks - Catastrophe Modelling," Working Papers 0708, Department of Mathematical Economics and Economic Analysis, Corvinus University of Budapest.
  • Handle: RePEc:mkg:wpaper:0708
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    File URL: http://web.uni-corvinus.hu/matkg/working_papers/wp_2007_8_benedek_homolya.pdf
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    More about this item

    Keywords

    risk management; operational risk; risk modelling; banking;

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • C19 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Other
    • C69 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Other
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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