Capital requirements for market risks

Alberto Burchi

Journal of Financial Regulation and Compliance, 2013, vol. 21, issue 3, 284-304

Abstract: Purpose - The financial crisis has led the Basel Committee to improve the system of capital requirements for market risks. This paper aims to investigate the effects of different models to estimate the market risk in the management of the trading book. The study takes into account the events occurring in the financial markets and the new prudential rules. Design/methodology/approach - The author compares different models and proposes an opportunity cost function able to evaluate the cost related to capital requirements. He identified seven asset classes and studies the effects of different models for estimating VaR simulating financial portfolios with increasing risk. The series consists of the daily return from 01/01/2002 to 06/30/2012. Findings - The results show that it is possible to identify a wide area between aggressive and conservative approach where the bank management must choose. The regulation does not encourage intermediaries to the use of complex models that could better evaluate the risk in financial markets. The revision of the market risk framework increases the capital requirement and reduces the incentive to use models with more predictive power for regulatory purposes. Originality/value - The work differs from previous contributions for three characteristics: first, it uses a set of extended data and more consistent with the actual operation. Secondly, the author presents an opportunity cost function in order to evaluate the estimation models. Third, he calculates the effect of stressed‐VaR after a year and a half of adoption.

Keywords: Regulation; Value‐at‐risk (VaR); Violation penalties; Model optimization; Capital requirement; Trading book; Market risk; Basel Committee; Optimization techniques; Capital (search for similar items in EconPapers)
Date: 2013
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Persistent link: https://EconPapers.repec.org/RePEc:eme:jfrcpp:v:21:y:2013:i:3:p:284-304

DOI: 10.1108/JFRC-10-2012-0042

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