Robust Optimal Strategies for Early Liquidation in Financial Systems

Dohyun Ahn and Hongyi Jiang

Papers from arXiv.org

Abstract: We study the problem of asset liquidation in financial systems. During financial crises, asset liquidation is often inevitable but can lead to substantial losses if a significant amount of illiquid assets are sold simultaneously at depressed prices -- a phenomenon known as price impact. To tackle this challenge, we consider a two-period liquidation model that allows for early liquidation prior to clearing, thereby mitigating price impact at clearing, and we develop a worst-case approach to solve the decision-making problem on the optimal size of early liquidation. Specifically, we propose a robust optimal strategy -- a tractable liquidation approach that maximizes the worst-case value of liquid assets at clearing, taking into account the uncertainty of other banks' early liquidation decisions. We derive a (semi-)closed-form representation of this strategy in a practical scenario involving permanent price impact and analyze its sensitivity to that impact's magnitude. We further identify its closed-form expression in another practical scenario featuring interbank exposures. Our findings, although built upon a stylized model, offer valuable guidelines for developing robust liquidation strategies that mitigate losses resulting from asset liquidation.

Date: 2026-03, Revised 2026-03
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