Final Report Summary - RISK (Risk Management and Risk Reporting) The global financial crisis has an impact that is much worse than any expert prediction and all previous experience. This ITN (www.fp7.portals.mbs.ac.uk) brings together research excellence in financial reporting, quantitative finance, banking theory, systemic risk, & market microstructure from 18 university and industry partners with the common goal of training researchers in this field. Of the 34 fellows appointed, 9 PhD and 3 MPhil were produced based on the research conducted at the ITN while another 4 are on course to receiving PhD degrees soon. 5 fellows are now assistant professors in Germany, UK, Cyprus, Ireland and Singapore, and 4 continue with postdoctoral research in Italy, Australia, UK and Finland. 22 fellows have been trained and gained secondment experience with the network industry partners. 6 other secondments were with network universities. 17 fellows have now joined the industry working for World Bank, IMF, a number of investment banks, trading houses and insurance firm. Of these placements, two fellows were hired by the ITN partners. About 60 research papers have now been produced, 4 of which are already in print in high quality peer review journals. Many more research papers are now in the submission and review process for publication in academic and practitioners’ journals. The research outputs are directly responsible for no less than 6 enhancements to business implementations by our industry partners.The research projects weaved along 6 themes utilising a range of methodologies from quantitative empirical studies & statistical & mathematical modelling to qualitative case study analysis. In summary:Risk Reporting & Organisation: Research confirmed that accounting conservatism leads to more prudent and stable bank lending behaviour, and that financial market perceives loan provision and fair value differently. A list of conditions under which fair value is useful has been identified and informed the policy makers. Separate research reveals alarmingly that there is little common practice in Europe for the reporting and management of reputational risks. Comparison of the annual reports of banks suggests banks they follow a limited view in intangibles-related reporting, while another study on non-financial disclosures reveals intangibles disclosure did not impact on the firms' market risk. In terms of impact on organisations; we find subprime crisis has damaged traditional bank lending relationship and created distrust in credit rating agencies. As a result, business revoked to personal connections, and evidence of this was found between issuers and underwriters in IPO case studies. Banking Theories & Practices: One of the focuses here is on banks’ risk taking on asset side through investment and lending as well as on liability side through leverage. Another fellow produced a survey on banks’ competition and risk taking where herding is taken into account. His new research project focuses on a Pigouvian taxation approach to regulate banks' short term borrowing, an issue directly related to the liquidity provisions that Basel III stipulate. A third fellow reviewed the main developments in banking regulation concerning macroprudential regulation and analysed banks’ behaviour through the business cycle and how this behaviour is related to investors’ overconfidence. Another study investigated the measures of contagion and systemic risk by used by policymakers using tools related to the network analysis. The research findings could inform regulators in setting risk charges for systemically important financial institutions.Regulatory Requirement & Modelling Framework: A study concludes that central bank intervention is more effective as a lender of last resort than as a market maker of last resort. Moreover, interbank lending narrows banks' proximity increases the risk of joint default & their credit spreads. One project explored risk factors that determine loan-to-value ratio for equity & bond portfolios & correction functions for concentration risk. The research outcome has a direct impact on central bank & private sector risk management practices. More recent research on “Debt Value Adjustments” finds its inclusion unduly increased risk sensitivity of counter party risk provision substantially. Another study finds that separate modelling of market and credit risks leads to underestimation of the true risk, and challenges the reliability of the internal risk charge and regulatory minimum capital requirements in Basel. A third study produce analytical results for measuring risk exposure associated with basis spread volatility, a risk that emerged after the subprime crisis increased default risk of banks and liquidity risk of major currencies. Finally, another fellow provided robust estimation procedures for second order stochastic dominance which allows more general portfolio optimisation that is less sensitive to individual investor risk preference specification.Risk Concepts & Systemic Risk: Research focuses on the statistics of extremes & tail distributions from both the theoretical & practitioners' perspective. Other research examines potential factors for identifying systemically important financial institutions. A number of the results have already been implemented by MSCI. More recent research conclude that it is possible to form portfolio that combine investors’ desired return and downside risk appetite using firm-level characteristics. Similar technique can be employed by asset managers to better control their downside risk exposure and attract more long-term risk adverse investors. Another fellow find size is not a universal indicator for bank’s systemic risk when the size is sufficiently large; other bank characteristics are needed to indentify systemically important banks. Finally, a third fellow constructed models for measuring extreme linkages in the financial markets based on macroeconomic conditions.Market Microstructure, Liquidity & Volatility: Promising results have been obtained based on high frequency trade data. Research finding shows that liquidity information from high frequency data can be used to enhance Basel Value-at-Risk measure. Copula dependence estimated using intraday data was shown to be more accurate in capturing assets’ daily’s dependence especially during crisis. For risk management purposes in practice, conservative bounds on high frequency data realized covariance and correlations are derived based on few modelling assumptions. Another research focus on the impact of monetary policy on stock market volatility and stock market returns, an issue that is potentially important to policy maker. The fellow and the Scientist in Charge were commissioned by the UK Treasury Foresight Programme to investigate the impact of ultra high speed trading. A series of recommendations were made in that report. Quantitative Techniques and High Performance Computation: Completed projects include the use of partial difference equations with augmented variables to calculate risk measures for large mortgage pool. The solutions were immediately implemented by a network partner to speed up the calculation involving plain mortgage instruments. Another project that used "belief-rule-based" algorithm in multiple objectives & multiple constraints optimisation is now published. Two projects completed recently focused on harnessing modern computing power available in computer graphic card and newly released many/multi-core processors. The goal is to speed up risk estimation so that risk manager has updated hedge ratio, risk exposure and regulatory capital information on a real time basis.The network hosted a very successful ITN Final Conference on Financial Risk Management & Risk Reporting at the University of Konstanz, Germany on 11th and 12th April 2013. The Conference attracted over 113 delegates and a total of 20 Marie Curie Fellows for the RISK project attended the Conference which included both past and present fellows. Among the participants from outside of the network, 75 were from industry and other Universities and the remaining 18 attendees were from the partner institutions. In total 139 papers were submitted for the conference of which 41 were accepted. 14 of the papers accepted were by RISK fellows. The conference provided the opportunity for the network fellows and project supervisors/scientists in charge to meet and discuss their research and findings. For the fellows this was an opportunity to present their research to a wider audience. The conference attendees also benefited from a number of high profile speakers from industry and academia in a wide range of areas related to risk management and risk reporting.
