Liquidity and Equity Short term fragility: Stress-tests for the European banking system

Guillaume Arnould, Catherine Bruneau () and Zhun Peng ()
Additional contact information
Catherine Bruneau: Centre d'Economie de la Sorbonne, https://centredeconomiesorbonne.univ-paris1.fr
Zhun Peng: Université d'Evry - EPEE

Documents de travail du Centre d'Economie de la Sorbonne from Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne

Abstract: This paper investigates the impact of extreme shocks on stock and bond markets on listed European banks. The originality of our approach consists in dealing jointly with stock and bond markets and taking into account their interdependencies in case of extreme events by using a specific CVRF (CVine Risk Factor) model which combines copulas and a factorial structure. Moreover, contrary to what is generally done in the literature, we do not focus only on the responses of the stock returns but we also examine the response of the balance sheets of the banks and particularly of their short term assets in order to assess their fragility in terms of liquidity. Our main findings are the following: 1) the nature of the banks' fragility has changed: today, the interest rate risk should be the first concern before the equity risk, as the banks have extensively increased their exposition to bond market due to flight-to-quality reactions and to large investments in governments bonds after the rescue operations the banks have benefited; 2) in case of a surge in the interest rate and in the links between stock and bond returns, the portfolios of the biggest banks in Europe would experience very severe shortfalls for both equity and liquidity buffers. Accordingly regulators should monitor the evolution of dependencies between assets and should pay utmost attention to the positive links between stock and bond returns

Keywords: Stress-test; Financial Stability; Extreme Risks; Bank Balance Sheet; Systemic Risk; Copula; Risk factors (search for similar items in EconPapers)
JEL-codes: F32 G17 G21 (search for similar items in EconPapers)
Pages: 40 pages
Date: 2015-12
New Economics Papers: this item is included in nep-ban and nep-eec
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ftp://mse.univ-paris1.fr/pub/mse/CES2015/15090.pdf (application/pdf)

Related works:
Working Paper: Liquidity and Equity Short term fragility: Stress-tests for the European banking system (2015)
Working Paper: Liquidity and Equity Short term fragility: Stress-tests for the European banking system (2015)
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Persistent link: https://EconPapers.repec.org/RePEc:mse:cesdoc:15090

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