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Into the Trading Book: Estimating Expected Shortfall

Schmutz, Robin Eric LU and Schneider, Leonard LU (2023) NEKN02 20231
Department of Economics
Abstract
In light of the revised 2019 proposals constituting the Fundamental Review of the Trading Book, which amend the third Basel Accord, expected shortfall is set to replace value at risk as the risk measure dictating banks' capital reserving requirements for exposure to market risk. This paper examines how best to accurately estimate expected shortfall from a regulatory perspective by carrying out an array of non-parametric as well as parametric methods over the recent years of financial instability. While previous research has predominantly made use of stock indexes to proxy bank’s trading books, we not only employ the S&P500 Index, but also real profit-and-loss data of three large European banks. Through backtesting we identify a... (More)
In light of the revised 2019 proposals constituting the Fundamental Review of the Trading Book, which amend the third Basel Accord, expected shortfall is set to replace value at risk as the risk measure dictating banks' capital reserving requirements for exposure to market risk. This paper examines how best to accurately estimate expected shortfall from a regulatory perspective by carrying out an array of non-parametric as well as parametric methods over the recent years of financial instability. While previous research has predominantly made use of stock indexes to proxy bank’s trading books, we not only employ the S&P500 Index, but also real profit-and-loss data of three large European banks. Through backtesting we identify a GARCH-Generalized Pareto distribution model (rooted in the peaks-over-threshold model) as yielding the most satisfactory ES forecasts for both the index and bank data sets, with the age-weighted historical simulation method also showcasing an all-around strong performance. (Less)
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author
Schmutz, Robin Eric LU and Schneider, Leonard LU
supervisor
organization
course
NEKN02 20231
year
type
H1 - Master's Degree (One Year)
subject
keywords
Expected shortfall, Trading book, Historical simulation, Parametric estimation, Backtesting
language
English
id
9119704
date added to LUP
2023-11-24 08:57:46
date last changed
2023-11-24 08:57:46
@misc{9119704,
  abstract     = {{In light of the revised 2019 proposals constituting the Fundamental Review of the Trading Book, which amend the third Basel Accord, expected shortfall is set to replace value at risk as the risk measure dictating banks' capital reserving requirements for exposure to market risk. This paper examines how best to accurately estimate expected shortfall from a regulatory perspective by carrying out an array of non-parametric as well as parametric methods over the recent years of financial instability. While previous research has predominantly made use of stock indexes to proxy bank’s trading books, we not only employ the S&P500 Index, but also real profit-and-loss data of three large European banks. Through backtesting we identify a GARCH-Generalized Pareto distribution model (rooted in the peaks-over-threshold model) as yielding the most satisfactory ES forecasts for both the index and bank data sets, with the age-weighted historical simulation method also showcasing an all-around strong performance.}},
  author       = {{Schmutz, Robin Eric and Schneider, Leonard}},
  language     = {{eng}},
  note         = {{Student Paper}},
  title        = {{Into the Trading Book: Estimating Expected Shortfall}},
  year         = {{2023}},
}