Liquidity Stress Testing in Asset Management - Part 2. Modeling the Asset Liquidity Risk

Thierry Roncalli, Amina Cherief, Fatma Karray-Meziou and Margaux Regnault

MPRA Paper from University Library of Munich, Germany

Abstract: This article is part of a comprehensive research project on liquidity risk in asset management, which can be divided into three dimensions. The first dimension covers liability liquidity risk (or funding liquidity) modeling, the second dimension focuses on asset liquidity risk (or market liquidity) modeling, and the third dimension considers the asset-liability management of the liquidity gap risk (or asset-liability matching). The purpose of this research is to propose a methodological and practical framework in order to perform liquidity stress testing programs, which comply with regulatory guidelines (ESMA, 2019, 2020) and are useful for fund managers. The review of the academic literature and professional research studies shows that there is a lack of standardized and analytical models. The aim of this research project is then to fill the gap with the goal of developing mathematical and statistical approaches, and providing appropriate answers. In this second article focused on asset liquidity risk modeling, we propose a market impact model to estimate transaction costs. After presenting a toy model that helps to understand the main concepts of asset liquidity, we consider a two-regime model, which is based on the power-law property of price impact. Then, we define several asset liquidity measures such as liquidity cost, liquidation ratio and shortfall or time to liquidation in order to assess the different dimensions of asset liquidity. Finally, we apply this asset liquidity framework to stocks and bonds and discuss the issues of calibrating the transaction cost model.

Keywords: Asset liquidity; stress testing; bid-ask spread; market impact; transaction cost; participation rate; power law; liquidation cost; liquidation ratio; liquidation shortfall; time to liquidation (search for similar items in EconPapers)
JEL-codes: C02 G32 (search for similar items in EconPapers)
Date: 2021-04-01
New Economics Papers: this item is included in nep-cfn, nep-cwa and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Related works:
Working Paper: Liquidity Stress Testing in Asset Management -- Part 2. Modeling the Asset Liquidity Risk (2021)
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:108295

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