Research output: Contribution to journal/Conference contribution in journal/Contribution to newspaper › Journal article › Research › peer-review
Expected Shortfall and Portfolio Management in Contagious Markets. / Buccioli, Alice; Kokholm, Thomas; Nicolosi, Marco.
In: Journal of Banking & Finance, Vol. 102, No. May, 2019, p. 100-115.Research output: Contribution to journal/Conference contribution in journal/Contribution to newspaper › Journal article › Research › peer-review
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TY - JOUR
T1 - Expected Shortfall and Portfolio Management in Contagious Markets
AU - Buccioli, Alice
AU - Kokholm, Thomas
AU - Nicolosi, Marco
PY - 2019
Y1 - 2019
N2 - We study the impact of market contagion on portfolio management. To model possible recurrence in the arrival of extreme events, we equip classic Poisson jumps with long memory via past-weighted randomization of the likelihood of their occurrences (Hawkes processes). Within this framework, we tackle the problem of optimal portfolio selection in terms of Expected Shortfall (ES). We use the generalized method of moments to estimate the model on three US stock indexes, representing three major sectors of the US economy. The moment conditions of the model are computed efficiently in closed form applying a novel technique. Given parameter estimates we maximize (at a monthly frequency in the period 2001-2016) the expected return subject to a constraint on ES of a portfolio consisting of the three US sector indexes. We find that the weights of the optimal portfolio are significantly adjusted when the level of contagion is high. Finally, we perform an extensive out-of-sample back-test of the model's ability to measure ES and find that the Hawkes jump-diffusion model outperforms two traditional models that are commonly implemented.
AB - We study the impact of market contagion on portfolio management. To model possible recurrence in the arrival of extreme events, we equip classic Poisson jumps with long memory via past-weighted randomization of the likelihood of their occurrences (Hawkes processes). Within this framework, we tackle the problem of optimal portfolio selection in terms of Expected Shortfall (ES). We use the generalized method of moments to estimate the model on three US stock indexes, representing three major sectors of the US economy. The moment conditions of the model are computed efficiently in closed form applying a novel technique. Given parameter estimates we maximize (at a monthly frequency in the period 2001-2016) the expected return subject to a constraint on ES of a portfolio consisting of the three US sector indexes. We find that the weights of the optimal portfolio are significantly adjusted when the level of contagion is high. Finally, we perform an extensive out-of-sample back-test of the model's ability to measure ES and find that the Hawkes jump-diffusion model outperforms two traditional models that are commonly implemented.
KW - Hawkes process
KW - Contagion
KW - Expected shortfall
KW - Back-testing
KW - Portfolio management
U2 - 10.1016/j.jbankfin.2019.03.003
DO - 10.1016/j.jbankfin.2019.03.003
M3 - Journal article
VL - 102
SP - 100
EP - 115
JO - Journal of Banking & Finance
JF - Journal of Banking & Finance
SN - 0378-4266
IS - May
ER -