Pro‐cyclicality beyond business cycle

We show that pro‐cyclicality is inherent in risk measure estimates based on historical data. Taking the example of VaR, we show that the empirical VaR measure is mean‐reverting over a 1‐year horizon when the portfolio is held fixed. It means that a capital requirement rule based on historical measur...

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Veröffentlicht in:Mathematical finance 2023-04, Vol.33 (2), p.308-341
Hauptverfasser: Bräutigam, Marcel, Dacorogna, Michel, Kratz, Marie
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Dacorogna, Michel
Kratz, Marie
description We show that pro‐cyclicality is inherent in risk measure estimates based on historical data. Taking the example of VaR, we show that the empirical VaR measure is mean‐reverting over a 1‐year horizon when the portfolio is held fixed. It means that a capital requirement rule based on historical measurements of VaR tends in calm times to understate future required capital and tends in volatile times to overstate it. To quantify this pro‐cyclicality, we develop a simple and efficient methodology, which we apply to major equity market indices. We make the interesting point that the pro‐cyclicality property holds true even in a world with constant volatility, though the empirical magnitude of the mean‐reversion is greater than what would be observed in that special case.
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source Wiley Journals; EBSCOhost Business Source Complete
subjects Bahadur representation
Business cycles
Data
estimation
Finance
financial risk management
joint asymptotic normality
market state
regulation
Risk management
risk measure
statistics
Volatility
title Pro‐cyclicality beyond business cycle
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