Estimating Liquidity Risks by Edu Pristine

Author of lecture Estimating Liquidity Risks

Edu Pristine

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... to execute an order, price of execution compared to bid/ask price in market, cost of transacting etc. Some of the terms that are often used to describe liquidity in secondary markets are as follows: Impact cost: It is the % deviation of the actual sale price of a security from the average of the bid-ask price ...

... Market dependent on nature of trade. Large order size (relation to outstanding orders): In this scenario the market price reacts to this order. In this reference we can call 'bid- ask' spread as ...

... uncertainty to source of funding. There can be a run-off on these non-contractual liabilities because of endogenous factors. It would impose additional cost on bank, since they still need to fund assets/borrowers to whom they have lent. Nature of Assets: Contingent liabilities and committed ...

... Constant spread approach, exogenous spread approach, endogenous price approach, endogenous price approaches, liquidity discount approach ...

... VaR is a check to see percentage by which LVaR exceeds VaR. As an example of VaR following lognormal distribution the calculation goes as follows: Setting mean to zero we get liquidity ...

... 0, S.D.=0.25/sqrt(250), Spread = 0.02. LVaR / VaR = 1 + 0.02/2[1 -exp( -0.25*1.645/sqrt(250)] = 1.3895 => liquidity adjustment raises VaR by almost 40% 2.To the above problem, additionally mean of spread is ...

... be assumed to be following random distribution, say normal or any other fat tailed distribution. Simulate both P (position) and the spread, incorporate the spread into P to get liquidity adjusted prices. Infer liquidity-adjusted VaR from the distribution of simulated liquidity adjusted prices. Alternatively (Bangia et al.1999) ...

... change in quantity. This approach can be combined to produce a 'combined' measure of LVaR. LVaR Combined = LVaR Endogenous * LVaR Exogenous 8 NN VaR LVaR P N N VaR P ...

... position within a certain period of time to maximize expected utility, and seeks the best way to do so. This approach includes exogenous and endogenous market liquidity, spread cost, spread ...

... cashflows over a defined horizon period. It is the maximum expected cashflow over the horizon at a given confidence level: Positive LaR means that 'worst' ...

... daily marking to market collateral obligations, such as those on swaps, which can generate inflows or outflows of cash depending on the way the market moves. Collateral obligations can also change when counterparties like brokers alter them in response to changes in volatility, and collateral requirements on credit sensitive positions (e.g., such as ...

... m: margin requirement. Sophisticated models should take into account the following complications as well (best modeled in MC simulations): Discreteness of credit events, interdependency of credit events, interaction of market and credit ...

... Deposit drains and estimation of worst deposit drain on a normal business day at highest probability. Asset side liquidity risk: Tremendous increase in 'Contingent Liabilities' and 'Commitments'. Sale of investments in stressed times at deep discount ...

... sophistication and ease of implementation. ii.) The constant spread approach in calculating LVAR assumes that the difference between ask and bid price is constant. iii.) If I take more time to sell a certain security my exposure to exogenous and ...

... $ 4.62mn. The daily mean and volatility of the portfolio returns are 2.5% and 4% respectively. VAR is measured relative to the initial wealth. The bid-ask spread of the ...

... Adjustment for liquidity = 188,496 + Adjustment for liquidity where, Adjustment for liquidity = 0.5*Portfolio Value*( spread mean + 1.96*spread volatility) = 0.5*$4.62mn * (0.5% + 1.96*1.5%) = $79,464 Liquidity -adjusted VAR = 188,496 + 79,464 = $267,960 16 0766 .