Related papers: The dynamics of the leverage cycle
This paper considers the constrained portfolio optimization in a generalized life-cycle model. The individual with a stochastic income manages a portfolio consisting of stocks, a bond, and life insurance to maximize his or her consumption…
We study in details the skew of stock option smiles, which is induced by the so-called leverage effect on the underlying -- i.e. the correlation between past returns and future square returns. This naturally explains the anomalous…
The time-dependent relaxation of a dynamical system may exhibit a power-law behavior that is superimposed by log-periodic oscillations. Sornette [Phys. Rep. 297, 239 (1998)] showed that this behavior can be explained by a discrete scale…
In this paper we introduce a generalization of classical risk measures in which the risk is represented by a step function taking two values, corresponding to two endogenously determined market regimes. This extends the traditional…
A representation of economic activity in the form of a law of conservation of value is presented based on the definition of value as potential to act in an environment. This allows the encapsulation of the term as a conserved quantity…
It is common knowledge that leverage can increase the potential returns of an investment, at the expense of increased risk. For a passive investor in the stock market, leverage can be achieved using margin debt or leveraged-ETFs. We perform…
While the investors' responses to price changes and their price forecasts are well accepted major factors contributing to large price fluctuations in financial markets, our study shows that investors' heterogeneous and dynamic risk aversion…
We consider a financial network represented at any time instance by a random liability graph which evolves over time. The agents connect through credit instruments borrowed from each other or through direct lending, and these create the…
This paper suggests that business cycles may be a manifestation of coupled real economy and stock market dynamics and describes a mechanism that can generate economic fluctuations consistent with observed business cycles. To this end, we…
We study overpricing in a repeated game between two representative agents: a market maker, who controls market liquidity, and a market taker, who chooses trade quantities. Market prices evolve through the endogenous price impact of trades…
This paper is concerned with cost optimization of an insurance company. The surplus of the insurance company is modeled by a controlled regime switching diffusion, where the regime switching mechanism provides the fluctuations of the random…
The paper discusses various practical consequences of treating economics and finance as an inherently dynamic and chaotic system. On the theoretical side this looks at the general applicability of the market-making pricing approach to…
We model leverage as stochastic but independent of return shocks and of volatility and perform likelihood-based inference via the recently developed iterated filtering algorithm using S&P500 data, contributing new evidence to the still slim…
Banks in the interbank network can not assess the true risks associated with lending to other banks in the network, unless they have full information on the riskiness of all the other banks. These risks can be estimated by using network…
In a continuous time stochastic economy, this paper considers the problem of consumption and investment in a financial market in which the representative investor exhibits a change in the discount rate. The investment opportunities are a…
We construct a continuous time model for price-mediated contagion precipitated by a common exogenous stress to the banking book of all firms in the financial system. In this setting, firms are constrained so as to satisfy a risk-weight…
The stochastic leverage effect, defined as the standardized covariation between the returns and their related volatility, is analyzed in a stochastic volatility model set-up. A novel estimator of the effect is defined using a pre-estimation…
In nature and human societies, the effects of homogeneous and heterogeneous characteristics on the evolution of collective behaviors are quite different from each other. It is of great importance to understand the underlying mechanisms of…
Dynamic hedging is the practice of periodically transacting financial instruments to offset the risk caused by an investment or a liability. Dynamic hedging optimization can be framed as a sequential decision problem; thus, Reinforcement…
Complex non-linear interactions between banks and assets we model by two time-dependent Erd\H{o}s Renyi network models where each node, representing bank, can invest either to a single asset (model I) or multiple assets (model II). We use…