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Volume 11, September
 
 

Risks, Volume 11, Issue 10 (October 2023) – 18 articles

Cover Story (view full-size image): Leopold Gegenbauer was a 19th century mathematician who developed Gegenbauer polynomials. A Gegenbauer model when combined with a short-memory ARMA model is known as a GARMA model. Gegenbauer Auto-Regressive Moving-Average Models (GARMA) are a form of long-memory models and fractal models. They can capture processes that have a high correlation between observations that are far apart in time. GARMA models can also capture short-term cycles. These models can be applied to a variety of time series displaying long memory including sunspots, the flooding of the Nile, (see Hurst as in the Hurst exponent (1951)), inflation rates, exchange rates and realized volatility (RV), the topic of this application. View this paper
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13 pages, 377 KiB  
Article
Risk Structure of Banks in Spain: Do BHCs Have Greater Cost of Debt?
by Natalia Boliari, Kudret Topyan and Chia-Jane Wang
Risks 2023, 11(10), 184; https://doi.org/10.3390/risks11100184 - 23 Oct 2023
Cited by 1 | Viewed by 1261
Abstract
Holding companies legally separate the assets and owners of a company creating a layer of liability protection. Theoretically, this feature lowers the risk attributable to holding companies, enabling them to offer lower-cost debts compared to stand-alone alternatives. However, no study has ever tested [...] Read more.
Holding companies legally separate the assets and owners of a company creating a layer of liability protection. Theoretically, this feature lowers the risk attributable to holding companies, enabling them to offer lower-cost debts compared to stand-alone alternatives. However, no study has ever tested this hypothesis due to its technical and practical difficulties. Testing this hypothesis requires a separate classification of holding and stand-alone companies’ outstanding debts to compare their risk spreads, controlling the bonds’ risk ranking, maturities, and issue sizes. Further, a model is needed to make the callable bond spreads with unknown maturity dates comparable to non-callable bonds. This work is the first attempt to evaluate the risk spreads of stand-alone banks and bank holding companies in Spain by including all outstanding rated bonds offered by Spanish banks. In order to make callable bond spreads comparable with noncallable bond spreads, we obtained the option-adjusted spreads for the bonds using a lattice option-pricing model that treats the callable bonds as a bond with embedded options. We then regressed to option-adjusted spreads on control variables and ownership structure dummy to see if there exists a statistically and economically significant coefficient for the introduced dummy variable. We found that bank-holding company bonds have higher risk spreads compared to the stand-alone alternatives in Spain. This may be attributable to the characteristics of holding companies that introduce other risks that offset the gains obtained from the added layer of liability protection. Full article
25 pages, 857 KiB  
Article
Assessing the Impact of Credit Risk on Equity Options via Information Contents and Compound Options
by Federico Maglione and Maria Elvira Mancino
Risks 2023, 11(10), 183; https://doi.org/10.3390/risks11100183 - 20 Oct 2023
Viewed by 1537
Abstract
This work aims to develop a measure of how much credit risk is priced into equity options. Such a measure appears particularly appealing when applied to a portfolio of equity options, as it allows for the factoring in of firm-specific default dynamics, thus [...] Read more.
This work aims to develop a measure of how much credit risk is priced into equity options. Such a measure appears particularly appealing when applied to a portfolio of equity options, as it allows for the factoring in of firm-specific default dynamics, thus producing a comparable statistic across different equities. As a matter of fact, comparing options written on different equities based on their moneyness does offer much guidance in understanding which option offers a better hedging against default. Our newly-introduced measure aims to fulfil this gap: it allows us to rank options written on different names based on the amount of default risk they carry, incorporating firm-specific characteristics such as leverage and asset risk. After having computed this measure using data from the US market, several empirical tests confirm the economic intuition of puts being more sensitive to changes in the default risk as well as a good integration of the CDS and option markets. We further document cross-sectional sectorial differences based on the industry the companies operate in. Moreover, we show that this newly-introduced measure displays forecasting power in explaining future changes in the skew of long-term maturity options. Full article
(This article belongs to the Special Issue Risks Journal: A Decade of Advancing Knowledge and Shaping the Future)
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18 pages, 757 KiB  
Article
An Analysis of Volatility and Risk-Adjusted Returns of ESG Indices in Developed and Emerging Economies
by Hemendra Gupta and Rashmi Chaudhary
Risks 2023, 11(10), 182; https://doi.org/10.3390/risks11100182 - 19 Oct 2023
Viewed by 2463
Abstract
The importance of Environmental, Social, and Governance (ESG) aspects in investment decisions has grown significantly in today’s volatile financial market. This study aims to answer the important question of whether investing in ESG-compliant companies is a better option for investors in both developed [...] Read more.
The importance of Environmental, Social, and Governance (ESG) aspects in investment decisions has grown significantly in today’s volatile financial market. This study aims to answer the important question of whether investing in ESG-compliant companies is a better option for investors in both developed and emerging markets. This study assesses ESG investment performance in diverse regions, focusing on developed markets with high GDP, specifically the USA, Germany, and Japan, alongside emerging nations, India, Brazil, and China. We compare ESG indices against respective broad market indices, all comprising large and mid-cap stocks. This study employs a variety of risk-adjusted criteria to systematically compare the performance of ESG indices against broad market indices. The evaluation also delves into downside volatility, a crucial factor for portfolio growth. It also explores how news events impact ESG and market indices in developed and emerging economies using the EGARCH model. The findings show that, daily, there is no significant difference in returns between ESG and conventional indices. However, when assessing one-year rolling returns, ESG indices outperform the overall market indices in all countries except Brazil, exhibiting positive alpha and offering better risk-adjusted returns. ESG portfolios also provide more downside risk protection, with higher upside beta than downside beta in most countries (except the USA and India). Furthermore, negative news has a milder impact on the volatility of ESG indices in all of the studied countries except for Germany. This suggests that designing a portfolio based on ESG-compliant companies could be a prudent choice for investors, as it yields relatively better risk-adjusted returns compared to the respective market indices. Furthermore, there is insufficient evidence to definitively establish that the performance of ESG indices varies significantly between developed and emerging markets. Full article
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20 pages, 466 KiB  
Article
Determinants of Cash Distribution Options in South African Listed Firms: An Empirical Analysis of Earnings, Company Size, and Economic Value Added
by Ntungufhadzeni Freddy Munzhelele and Ayodeji Michael Obadire
Risks 2023, 11(10), 181; https://doi.org/10.3390/risks11100181 - 19 Oct 2023
Viewed by 1741
Abstract
The purpose of this study was to examine the determinants of cash distribution options by critically considering the effects of earnings, dividends, firm size, and economic value added. The distribution of cash dividends to shareholders serves as a basic means by which shareholders [...] Read more.
The purpose of this study was to examine the determinants of cash distribution options by critically considering the effects of earnings, dividends, firm size, and economic value added. The distribution of cash dividends to shareholders serves as a basic means by which shareholders receive returns on their investments, so it is essential to examine share repurchases alongside dividends to enhance management’s efforts in maximising shareholder value. This study utilised panel data from 52 companies listed on the Johannesburg Security Exchange (JSE) that engaged in open market share repurchases for at least 2 years between 2000 and 2019. The data were extracted from the IRESS database. The panel data regression model was fitted with the ordinary least squares (OLS), difference generalised moment method (Diff-GMM), system generalised moment method (Sys-GMM), and least-squares dummy variable correction estimator (LSDVC). The findings revealed that there was a positive and significant relationship between the earnings per share and the payoff flexibility, implying that there was an inherent flexibility of repurchases as a payout option in the sampled firms. Additionally, the study revealed a significant negative relationship between the firm size, economic value added, and payoff flexibility. This suggests that larger companies tend to distribute a lower proportion of their earnings as share repurchases and opt for higher cash dividends instead. The implications of these findings provide financial managers with valuable insights into the role of share repurchases as a cash distribution choice. By recognising share repurchases as a viable option, financial managers can enhance their efforts to create and maximise shareholder value, particularly in emerging market settings. This evidence should encourage financial managers to recognise share repurchases more as a distribution choice, diffusing the tension regarding share repurchases replacing the payment of cash dividends and some doubt that they may not possess attributes complimentary to cash dividends. The study recommended relevant academic, industry, and policy implications in the South African context. Full article
15 pages, 837 KiB  
Article
Internet of Things and Big Data Analytics for Risk Management in Digital Tourism Ecosystems
by Petya Popova, Kremena Marinova and Veselin Popov
Risks 2023, 11(10), 180; https://doi.org/10.3390/risks11100180 - 18 Oct 2023
Cited by 1 | Viewed by 1647
Abstract
Participation and inclusion in the business ecosystem have emerged as a growing trend for company collaboration in areas such as innovation, product development, and research. Collaborations can take many forms, ranging from the traditional value chain to strategic alliances, corporate networks, and digital [...] Read more.
Participation and inclusion in the business ecosystem have emerged as a growing trend for company collaboration in areas such as innovation, product development, and research. Collaborations can take many forms, ranging from the traditional value chain to strategic alliances, corporate networks, and digital ecosystems. The Internet of Things (IoT) and Big Data Analytics (BDA) play key roles in developing smart tourism destinations by delivering efficient management solutions, increased public safety, and improved operational efficiency while managing different risks and challenges, while also being a source of such risks and challenges. The objective of this article was to investigate the potential of IoT and BDA to properly control the risks associated with participants in a tourism destination’s digital ecosystem. The authors used the systematic literature review (SLR) method to examine scientific and applied articles on this subject. As a result, the main risks of the digital tourism ecosystem (DTE) as a whole and of the IoT and BDA technologies used in it were identified and classified; the features of DTE that affect risk management in it were distinguished; IoT technologies and their applications used in DTE were outlined; and the roles of DTE participants and the possible IoT technologies that can successfully address the risks associated with a given role were defined. Full article
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15 pages, 1468 KiB  
Article
GARMA, HAR and Rules of Thumb for Modelling Realized Volatility
by David Edmund Allen and Shelton Peiris
Risks 2023, 11(10), 179; https://doi.org/10.3390/risks11100179 - 16 Oct 2023
Viewed by 1210
Abstract
This paper features an analysis of the relative effectiveness, in terms of the Adjusted R-Square, of a variety of methods of modelling realized volatility (RV), namely the use of Gegenbauer processes in Auto-Regressive Moving Average format, GARMA, as opposed to Heterogenous Auto-Regressive HAR [...] Read more.
This paper features an analysis of the relative effectiveness, in terms of the Adjusted R-Square, of a variety of methods of modelling realized volatility (RV), namely the use of Gegenbauer processes in Auto-Regressive Moving Average format, GARMA, as opposed to Heterogenous Auto-Regressive HAR models and simple rules of thumb. The analysis is applied to two data sets that feature the RV of the S&P500 index, as sampled at 5 min intervals, provided by the OxfordMan RV database. The GARMA model does perform slightly better than the HAR model, but both models are matched by a simple rule of thumb regression model based on the application of lags of squared, cubed and quartic, demeaned daily returns. Full article
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12 pages, 1122 KiB  
Article
Taguchi Risk and Process Capability
by Alexandru Isaic-Maniu, Irina-Maria Dragan, Ana-Maria Grigore and Florentina Constantin
Risks 2023, 11(10), 178; https://doi.org/10.3390/risks11100178 - 13 Oct 2023
Viewed by 1292
Abstract
Process control methods, in general, and quality, in particular, most often refer to the measures taken especially to the finished product, as well as to the technological process, in order to maintain its performance within certain statistical parameters. Genichi Taguchi is the first [...] Read more.
Process control methods, in general, and quality, in particular, most often refer to the measures taken especially to the finished product, as well as to the technological process, in order to maintain its performance within certain statistical parameters. Genichi Taguchi is the first who developed a quality control approach, used first in Japan and later in industrialized economies, a procedure widespread in quality under the name Taguchi method. Within the Taguchi method, he imposed a key term average loss attached to a process /characteristic in case it deviates, compared to a target value/objective, considered optimal. The Taguchi methodology is especially oriented towards the design phase, different from the classic approach oriented towards the final control phase upon delivery, or towards the supervision of the processes. This new approach aims to design processes and products so that they are as insensitive as possible (robust) to the influence of external, disruptive factors of the processes. In our paper, the capability indicators of the processes and their connection with the Taguchi risk are also presented. A link is also made between the statistical measurement of uncertainty and the Taguchi risk with an example in a process from the mechanical industry. Full article
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19 pages, 1434 KiB  
Article
Mapping Risks Faced by Startup Investors: An Approach Based on the Apriori Algorithm
by Claudio Roberto Silva Júnior, Julio Cezar Mairesse Siluk, Alvaro Luis Neuenfeldt-Júnior, Matheus Binotto Francescatto and Cláudia de Freitas Michelin
Risks 2023, 11(10), 177; https://doi.org/10.3390/risks11100177 - 13 Oct 2023
Cited by 1 | Viewed by 2008
Abstract
This article maps and verifies the dependence relation between risks faced by startup investors. Thus, a systematic review of 33 articles and a meta-analysis using the Apriori algorithm were used. We mapped 14 investment risks faced by startup investors, classifying them into four [...] Read more.
This article maps and verifies the dependence relation between risks faced by startup investors. Thus, a systematic review of 33 articles and a meta-analysis using the Apriori algorithm were used. We mapped 14 investment risks faced by startup investors, classifying them into four dimensions: external, internal, human, and capital. Furthermore, by using the Apriori algorithm, dependency relations between nine investment risks were observed. This research fills a gap related to the non-structuring of a holistic approach to the investment risks startup investors face. In addition, a comprehensive review of and a discussion about the relation between investment risks provides a theoretical foundation for startups’ investments based on analyzing the risks inherent to this activity. Full article
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17 pages, 709 KiB  
Article
Comparative Analysis of Machine Learning Models for Bankruptcy Prediction in the Context of Pakistani Companies
by Domicián Máté, Hassan Raza and Ishtiaq Ahmad
Risks 2023, 11(10), 176; https://doi.org/10.3390/risks11100176 - 10 Oct 2023
Cited by 3 | Viewed by 2946
Abstract
This article presents a comparative analysis of machine learning models for business failure prediction. Bankruptcy prediction is crucial in assessing financial risks and making informed decisions for investors and regulatory bodies. Since machine learning techniques have advanced, there has been much interest in [...] Read more.
This article presents a comparative analysis of machine learning models for business failure prediction. Bankruptcy prediction is crucial in assessing financial risks and making informed decisions for investors and regulatory bodies. Since machine learning techniques have advanced, there has been much interest in predicting bankruptcy due to their capacity to handle complex data patterns and boost prediction accuracy. In this study, we evaluated the performance of various machine learning algorithms. We collect comprehensive data comprising financial indicators and company-specific attributes relevant to the Pakistani business landscape from 2016 through 2021. The analysis includes AdaBoost, decision trees, gradient boosting, logistic regressions, naive Bayes, random forests, and support vector machines. This comparative analysis provides insights into the most suitable model for accurate bankruptcy prediction in Pakistani companies. The results contribute to the financial literature by comparing machine learning models tailored to anticipate Pakistani stock market insolvency. These findings can assist financial institutions, regulatory bodies, and investors in making more informed decisions and effectively mitigating financial risks. Full article
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29 pages, 821 KiB  
Article
Microinsurance and Economic Growth in Africa
by Tsvetanka Karagyozova
Risks 2023, 11(10), 175; https://doi.org/10.3390/risks11100175 - 08 Oct 2023
Viewed by 2105
Abstract
The reach and scope of microinsurance have expanded considerably over the last couple of decades. The literature on microinsurance focuses predominantly on its microeconomic impact. In contrast, I examine the contemporaneous and intertemporal effect of microinsurance on economic development using rich census data [...] Read more.
The reach and scope of microinsurance have expanded considerably over the last couple of decades. The literature on microinsurance focuses predominantly on its microeconomic impact. In contrast, I examine the contemporaneous and intertemporal effect of microinsurance on economic development using rich census data of microinsurance coverage in African economies. Estimates suggest that microinsurance affects economic growth both on impact and over time, with the magnitude of the intertemporal effect exceeding that of the contemporaneous effect. Evidence also suggests nonlinearities in the microinsurance–growth nexus. The marginal effect of microinsurance is a negative function of the starting level of development. For low-income countries, microinsurance has a robust positive effect on economic growth, both in terms of impact and over time. However, microinsurance may fail to leave a lasting trace on the aggregate economy in “richer” developing countries. Full article
(This article belongs to the Special Issue Inclusive Insurance)
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32 pages, 714 KiB  
Article
A Three-Factor Market Model for Incorporating Explicit General Inflation in Non-Life Claims Reserving
by Franco Moriconi
Risks 2023, 11(10), 174; https://doi.org/10.3390/risks11100174 - 07 Oct 2023
Cited by 1 | Viewed by 1253
Abstract
In a recent paper “Stochastic Chain-Ladder Reserving with Modeled General Inflation”, the effects of modeled general inflation on non-life claims reserving were studied using, along with the so called “market approach”, a stochastic two-factor market model, characterized by deterministic expected inflation. In the [...] Read more.
In a recent paper “Stochastic Chain-Ladder Reserving with Modeled General Inflation”, the effects of modeled general inflation on non-life claims reserving were studied using, along with the so called “market approach”, a stochastic two-factor market model, characterized by deterministic expected inflation. In the present paper, we repeat the same study, again with the market approach, using a three-factor market model which extends the two-factor model by including stochastic expected inflation. After detailing the theoretical model and estimating the relevant parameters on the same market data used in “Stochastic Chain-Ladder Reserving with Modeled General Inflation”, we repeat the application to claims reserving presented in that paper and compare the results obtained with the two models. With these data, it is found that the inclusion of stochastic expected inflation produces a non-negligible increase in the reserve solvency capital requirement under the one-year view. Full article
(This article belongs to the Special Issue Advancements in Actuarial Mathematics and Insurance Risk Management)
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26 pages, 6596 KiB  
Article
Multifactor Risk Attribution Applied to Systemic, Climate and Geopolitical Tail Risks for the Eurozone Banking Sector
by Giulia Bettin, Gian Marco Mensi and Maria Cristina Recchioni
Risks 2023, 11(10), 173; https://doi.org/10.3390/risks11100173 - 30 Sep 2023
Viewed by 1467
Abstract
The aim of this work is to introduce an innovative methodology for performing risk attribution within a multifactor risk framework. We applied this analysis to the assessment of systemic, climate, and geopolitical risks relative to a representative sample of Eurozone banks between 2011 [...] Read more.
The aim of this work is to introduce an innovative methodology for performing risk attribution within a multifactor risk framework. We applied this analysis to the assessment of systemic, climate, and geopolitical risks relative to a representative sample of Eurozone banks between 2011 and 2022. Comparing the results to the output of a bivariate approach, we found that contemporaneous tail crises generate combined equity losses exceeding partial analysis estimates. We then attributed the combined risk to each factor and to the effect of their interaction by employing our proposed frequency-based approach. For our computations, we used multivariate GARCH, Monte Carlo simulations, and a suite of Eurozone-specific factors. Our results show that total combined risk is on average 18% higher than traditional systemic risk estimates, that climate risk more than doubled in our period of analysis, and that geopolitical risk surged to over 5% of total combined risk. Our climate risk estimate is in line with the results of the 2022 European Central Bank climate stress test, and our geopolitical risk measure shows a positive correlation with the GPRD and Threats index. Full article
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31 pages, 8215 KiB  
Article
FMEA Model in Risk Analysis for the Implementation of AGV/AMR Robotic Technologies into the Internal Supply System of Enterprises
by Yuriy Bekishev, Zhanna Pisarenko and Vladislav Arkadiev
Risks 2023, 11(10), 172; https://doi.org/10.3390/risks11100172 - 30 Sep 2023
Cited by 1 | Viewed by 1838
Abstract
In the evolving economic landscape, Industry 4.0 emphasizes strategic planning and operational progress for large enterprises. This transformation relies on smart robotization technologies like AGVs (Automated Guided Vehicles) and AMRs (Autonomous Mobile Robots) for reducing transportation time, thereby reducing energy costs per unit [...] Read more.
In the evolving economic landscape, Industry 4.0 emphasizes strategic planning and operational progress for large enterprises. This transformation relies on smart robotization technologies like AGVs (Automated Guided Vehicles) and AMRs (Autonomous Mobile Robots) for reducing transportation time, thereby reducing energy costs per unit of production, increasing energy efficiency, as well as replacing combustible-fuel-powered tools with electric ones. A number of concerns arise with their introduction into the production cycle. This research aims to provide a methodical basis for averting substantial mistakes when executing projects centered around the incorporation of AGVs/AMRs into in-house logistics systems. The FMEA method and empirical analysis were employed to achieve a more accurate risk assessment. APIS and MS Excel softwares were chosen. We investigated the potential hazards related to the incorporation of mobile robotic solutions and identified both external and internal threats. To streamline and improve project efficiency, a risk management algorithm for high-tech projects is presented in the paper. Integrating FMEA into projects implementing robotic technologies can lead to significant enhancements in risk reduction, and therefore cost savings, efficiency, safety, and quality, while fostering a culture of collaboration and problem solving. The research contributes to the literature by introducing an AMR planning and control framework to guide managers in the decision-making process, thereby supporting them to achieve optimal performance. Finally, we propose an agenda for future research within the field of interest. Full article
(This article belongs to the Special Issue Risk Management in Shipping and Industry)
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39 pages, 1746 KiB  
Article
Discretionary Extensions to Unemployment Insurance Compensation and Some Potential Costs for a McCall Worker
by Rich Ryan
Risks 2023, 11(10), 171; https://doi.org/10.3390/risks11100171 - 28 Sep 2023
Viewed by 1100
Abstract
Unemployment insurance provides temporary cash benefits to eligible unemployed workers. Benefits are sometimes extended by discretion during economic slumps. In a model that features temporary benefits and sequential job opportunities, a worker’s reservation wages are studied when policymakers can make discretionary extensions to [...] Read more.
Unemployment insurance provides temporary cash benefits to eligible unemployed workers. Benefits are sometimes extended by discretion during economic slumps. In a model that features temporary benefits and sequential job opportunities, a worker’s reservation wages are studied when policymakers can make discretionary extensions to benefits. A worker’s optimal labor-supply choice is characterized by a sequence of reservation wages that increases with weeks of remaining benefits. The possibility of an extension raises the entire sequence of reservation wages, meaning a worker is more selective when accepting job offers throughout their spell of unemployment. The welfare consequences of misperceiving the probability and length of an extension are investigated. Properties of the model can help policymakers interpret data on reservation wages, which may be important if extended benefits are used more often in response to economic slumps, virus pandemics, extreme heat, and natural disasters. Full article
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21 pages, 694 KiB  
Article
Should Selection of the Optimum Stochastic Mortality Model Be Based on the Original or the Logarithmic Scale of the Mortality Rate?
by Miguel Santolino
Risks 2023, 11(10), 170; https://doi.org/10.3390/risks11100170 - 28 Sep 2023
Viewed by 989
Abstract
Stochastic mortality models seek to forecast future mortality rates; thus, it is apparent that the objective variable should be the mortality rate expressed in the original scale. However, the performance of stochastic mortality models—in terms, that is, of their goodness-of-fit and prediction accuracy—is [...] Read more.
Stochastic mortality models seek to forecast future mortality rates; thus, it is apparent that the objective variable should be the mortality rate expressed in the original scale. However, the performance of stochastic mortality models—in terms, that is, of their goodness-of-fit and prediction accuracy—is often based on the logarithmic scale of the mortality rate. In this article, we examine whether the same forecast outcomes are obtained when the performance of mortality models is assessed based on the original and log scales of the mortality rate. We compare four different stochastic mortality models: the original Lee–Carter model, the Lee–Carter model with (log)normal distribution, the Lee–Carter model with Poisson distribution and the median Lee–Carter model. We show that the preferred model will depend on the scale of the objective variable, the selection criteria measure and the range of ages analysed. Full article
(This article belongs to the Special Issue Longevity Risk, Insurance and Pensions)
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22 pages, 2107 KiB  
Article
An Exponentiality Test of Fit Based on a Tail Characterization against Heavy and Light-Tailed Alternatives
by Alex Karagrigoriou, Ioannis Mavrogiannis, Georgia Papasotiriou and Ilia Vonta
Risks 2023, 11(10), 169; https://doi.org/10.3390/risks11100169 - 28 Sep 2023
Viewed by 1157
Abstract
Log-concavity and log-convexity play a key role in various scientific fields, especially in those where the distinction between exponential and non-exponential distributions is necessary for inferential purposes. In the present study, we introduce a testing procedure for the tail part of a distribution [...] Read more.
Log-concavity and log-convexity play a key role in various scientific fields, especially in those where the distinction between exponential and non-exponential distributions is necessary for inferential purposes. In the present study, we introduce a testing procedure for the tail part of a distribution which can be used for the distinction between exponential and non-exponential distributions. The conspiracy and catastrophe principles are initially used to establish a characterization of (the tail part of) the exponential distribution, which is one of the main contributions of the present work, leading the way for the construction of the new test of fit. The proposed test and its implementation are thoroughly discussed, and an extended simulation study has been undertaken to clarify issues related to its implementation and explore the extent of its capabilities. A real data case is also investigated. Full article
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41 pages, 2554 KiB  
Article
A Semi-Static Replication Method for Bermudan Swaptions under an Affine Multi-Factor Model
by Jori Hoencamp, Shashi Jain and Drona Kandhai
Risks 2023, 11(10), 168; https://doi.org/10.3390/risks11100168 - 26 Sep 2023
Cited by 1 | Viewed by 1240
Abstract
We present a semi-static replication algorithm for Bermudan swaptions under an affine, multi-factor term structure model. In contrast to dynamic replication, which needs to be continuously updated as the market moves, a semi-static replication needs to be rebalanced on just a finite number [...] Read more.
We present a semi-static replication algorithm for Bermudan swaptions under an affine, multi-factor term structure model. In contrast to dynamic replication, which needs to be continuously updated as the market moves, a semi-static replication needs to be rebalanced on just a finite number of instances. We show that the exotic derivative can be decomposed into a portfolio of vanilla discount bond options, which mirrors its value as the market moves and can be priced in closed form. This paves the way toward the efficient numerical simulation of xVA, market, and credit risk metrics for which forward valuation is the key ingredient. The static portfolio composition is obtained by regressing the target option’s value using an interpretable, artificial neural network. Leveraging the universal approximation power of neural networks, we prove that the replication error can be arbitrarily small for a sufficiently large portfolio. A direct, a lower bound, and an upper bound estimator for the Bermudan swaption price are inferred from the replication algorithm. Additionally, closed-form error margins to the price statistics are determined. We practically study the accuracy and convergence of the method through several numerical experiments. The results indicate that the semi-static replication approaches the LSM benchmark with basis point accuracy and provides tight, efficient error bounds. For in-model simulations, the semi-static replication outperforms a traditional dynamic hedge. Full article
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18 pages, 624 KiB  
Article
Cyber Insurance Premium Setting for Multi-Site Companies under Risk Correlation
by Loretta Mastroeni, Alessandro Mazzoccoli and Maurizio Naldi
Risks 2023, 11(10), 167; https://doi.org/10.3390/risks11100167 - 22 Sep 2023
Viewed by 1087
Abstract
Correlation in cyber risk represents an additional source of concern for utility and industrial infrastructures, where risks may be introduced by connected systems. A major means of reducing risk is to transfer it through insurance. In this paper, we consider a company which [...] Read more.
Correlation in cyber risk represents an additional source of concern for utility and industrial infrastructures, where risks may be introduced by connected systems. A major means of reducing risk is to transfer it through insurance. In this paper, we consider a company which has peripheral branches in addition to its headquarters, where risk correlation is present between all of its sites and insurance is adopted to hedge against economic losses. We employ the expected utility principle (which leads to the well-known mean variance premium formula) to derive the insurance premium under risk correlation under several risk scenarios. Under a first-order approximation, a quasi-linear relationship between the premium and the two major risk factors (the number of branches and the risk correlation coefficient) is determined. Full article
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