A New Approach to Measuring Systemic Risk: Option-implied Tail Risk Dependencies in the Financial Sector

Projekt Start: 11/2012
Status: Beendet
Forscher: Holger Kraft,
Kategorie: Financial Institutions, Systemic Risk Lab
Finanziert von: LOEWE

Topic and Objectives

Several years after the beginning of the recent financial crisis, there is now a widespread consensus that, so far, regulation has focused too heavily on the individual risks of financial companies and has failed to address the interconnectedness in the financial sector. From a supervisory point of view it is, thus, essential to gain an understanding of how institutions behave in adverse market environments in order to properly monitor, regulate and, where necessary, support them.

In this project, we take a novel approach on how to measure systemic risk. Along the lines of the existing research on systemic risk, we explore the interaction between tail risk measures for individual companies and the broader financial sector itself. We use a value-at-risk (VaR) approach, however, in contrast to the existing literature, we do not estimate the VaR from past historical equity data but directly observe the VaR implied in equity option quotes.

After having obtained the option-implied VaRs of a broad range of US financial institutions, we run several rounds of parametric and non-parametric panel regressions in order to estimate the spillover in the financial sector and, thus, the systemic relevance of individual institutions.

 

Key Findings

  • The systemic risk profile of an institution increases with its size, with higher leverage, lower market-to-book valuation, lower return on equity and a riskier balance sheet composition.
  • Size and a low market-to-book ratio appear to be the dominant factors for a company's negative influence on the financial sector.
  • Negative shocks to the financial sector have larger effects on highly leveraged firms with a low market-to-book valuation, low earnings and a riskier balance sheet composition as measured by a high maturity mismatch and high shares of level-3 assets.
  • Our results highlight the importance of an appropriate identification scheme in order to correctly distinguish and quantify a company's systemic risk dependence and its contributions to systemic risk.

Zugehörige publizierte Papers

Autor(en) Titel Jahr Forschungs­bereich Keywords
Florian Hett, Alexander Schmidt Bank Rescues and Bailout Expectations: The Erosion of Market Discipline During the Financial Crisis
Journal of Financial Economics
2017 Financial Institutions, Systemic Risk Lab Bailout, Implicit Guarantees, Too-Big-To-Fail, Market Discipline

Zugehörige Working Papers

Nr. Autor(en) Titel Jahr Forschungs­bereich Keywords
25 Holger Kraft, Alexander Schmidt Systemic Risk in the Financial Sector: What Can We Learn from Option Markets? 2013 Financial Institutions, Systemic Risk Lab Systemic risk, Value-at-risk, Equity options, Implied volatility
36 Florian Hett, Alexander Schmidt Bank Rescues and Bailout Expectations: The Erosion of Market Discipline During the Financial Crisis 2013 Financial Institutions, Systemic Risk Lab Bailout, Implicit Guarantees, Too-Big-To-Fail, Market Discipline

 

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