Related papers: Credit Cycles, Securitization, and Credit Default …
Recent developments in the global liberalization of equity and currency markets, coupled to advances in trading technologies, are making markets increasingly interdependent. This increased fluidity raises questions about the stability of…
We study a simple, solvable model that allows us to investigate effects of credit contagion on the default probability of individual firms, in both portfolios of firms and on an economy wide scale. While the effect of interactions may be…
Credit and liquidity risks represent main channels of financial contagion for interbank lending markets. On one hand, banks face potential losses whenever their counterparties are under distress and thus unable to fulfill their obligations.…
Foreign exchange and credit derivatives increase the bank's contributions to systemic risk. Interest rate derivatives decrease it. The proportion of non-performing loans over total loans and the leverage ratio have stronger impact on…
We develop a model of bailout stigma where accepting a bailout signals a firm's balance-sheet weakness and worsens its funding prospect. To avoid stigma, high-quality firms either withdraw from subsequent financing after receiving bailouts…
The recent "correlation breakdown" in the modeling of credit default swaps, in which model correlations had to exceed 100% in order to reproduce market prices of supersenior tranches, is analyzed and argued to be a fundamental market…
I study the limit of a large random economy, where a set of consumers invests in financial instruments engineered by banks, in order to optimize their future consumption. This exercise shows that, even in the ideal case of perfect…
I develop a tractable adverse-selection model comparing secured bank loans and bonds when both pledge collateral but differ in effective liquidation efficiency. A small wedge in recovery rates generates coexistence, a sharp bank-bond…
Financial speculators often seek to increase their potential gains with leverage. Debt is a popular form of leverage, and with over 39.88B USD of total value locked (TVL), the Decentralized Finance (DeFi) lending markets are thriving.…
Systemic risk in banking systems remains a crucial issue that it has not been completely understood. In our toy model, banks are exposed to two sources of risks, namely, market risk from their investments in assets external to the banking…
We study insolvency cascades in an interbank system when banks are allowed to insure their loans with credit default swaps (CDS) sold by other banks. We show that, by properly shifting financial exposures from one institution to another, a…
We present a general equilibrium macro-finance model with a positive feedback loop between capital investment and land price. As leverage is relaxed beyond a critical value, through the financial accelerator, a phase transition occurs from…
We analyze how interdependencies between organizations in financial networks can lead to multiple possible equilibrium outcomes. A multiplicity arises if and only if there exists a certain type of dependency cycle in the network that allows…
The scale and terms of aggregate borrowing in an economy depend on the manner in which wealth is distributed across potential creditors with heterogeneous beliefs about the future. This distribution evolves over time as uncertainty is…
Debt recycling is an aggressive equity extraction strategy that potentially permits faster repayment of a mortgage. While equity progressively builds up as the mortgage is repaid monthly, mortgage holders may obtain another loan they could…
The question of how to stabilize financial systems has attracted considerable attention since the global financial crisis of 2007-2009. Recently, Beale et al. ("Individual versus systemic risk and the regulator's dilemma", Proc Natl Acad…
With the rise of emerging risks, model uncertainty poses a fundamental challenge in the insurance industry, making robust pricing a first-order question. This paper investigates how insurers' robustness preferences shape competitive…
It had been believed in the conventional practice that the risk of a bank going bankrupt is lessened in a straightforward manner by transferring the risk of loan defaults. But the failure of American International Group in 2008 posed a more…
We introduce an arbitrage-free framework for robust valuation adjustments. An investor trades a credit default swap portfolio with a risky counterparty, and hedges credit risk by taking a position in defaultable bonds. The investor does not…
A negative basis trade enters a long bond position and buys protection on the issuer of the bond through credit default swap (CDS), aiming at arbitrage profit due to the bond-CDS basis. To classic reduced form model theorists, the existence…