A Framework for Collateral Risk Control Determination

Didier Cossin, Zhijiang Huang, Daniel Aunon-Nerin and Fer nando González
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Didier Cossin: HEC-University of Lausanne, FAME and IMD
Zhijiang Huang: HEC-University of Lausanne and FAME
Daniel Aunon-Nerin: HEC-University of Lausanne and FAME
Fer nando González: European Central Bank,Risk Management Division

FAME Research Paper Series from International Center for Financial Asset Management and Engineering

Abstract: This paper derives a general framework for collateral risk control determination in repurchase transactions or repos. The objective is to treat consistently heterogeneous collateral so that the collateral taker has a similar risk exposure whatever the collateral pledged. The framework measures the level of risk with the probability of incurring a loss higher than a prespeci?ed level given two well-known parameters used to manage the intrinsic risk of collateral: marking to market and haircuts. It allows for the analysis in a self-contained closed form of the way in which different relevant factors interact in the risk control of collateral (e.g.marking to market frequency, level of volatility of interest rates, time to capture and liquidity risk,probability of default of counterparty,etc.). The framework,which combines the recent theoretical literature on credit and interest risk, provides an alternative quanti ?able and objective approach to the existing more ad-hoc rule-based methods used in haircut determination.

Keywords: Collateral; Repurchase Transactions; Default Risk; Central Banks; Monetary Policy Operations (search for similar items in EconPapers)
JEL-codes: E50 E58 G10 G21 (search for similar items in EconPapers)
Date: 2002-12
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