Currency option traders usually use the Black-Scholes model in which the exchange rate follows a lognormal process. However, it is found that exchange rates may follow a mean-reverting process instead, for example, certain currencies are constrained to move inside target zones or under a...

This paper proposes a path-dependent approach for estimating maximum appreciations of the renminbi expected by the market based on first-passage-time distributions. Using market data of the renminbi spot exchange rates, non-deliverable forward rates and currency option prices from 21 July 2005...

This paper investigates the determinants of variations in the yield spreads (swap spreads) between Hong Kong dollar interest rate swaps and Exchange Fund paper for a period from July 2002 to April 2008. A vector error-correction model is used to analyse the impact of various shocks on swap...

Under the framework of Basel II, banks which adopt the internal ratings-based approach will be required to compare their actual provisions with expected losses. Any shortfall (i.e., the expected loss exceeds the provision) should be deducted from capital of the bank. It is therefore important to...

The theoretical prediction of target exchange rates expects mean reversion of the exchange rates. This paper presents a model for valuing European foreign exchange options, in which the forward foreign exchange rate follows a mean-reverting lognormal process. The mean-reverting process has...

This study develops a stress-testing framework to assess liquidity risk of banks, where liquidity and default risks can stem from the crystallisation of market risk arising from a prolonged period of negative asset price shocks. In the framework, exogenous asset price shocks increase banks¡¯...

The empirical results show that after the introduction of the three refinements to the Linked Exchange Rate system in May 2005 the Hong Kong dollar follows a bounded process that is consistent with a fully credible exchange rate band. The bounded process will limit the movements of the exchange...

This paper develops a simple model for measuring the provision for a pool of collateralised retail loans with homogenous characteristics (i.e. the same type of collateral and broadly the same loan-to-value ratio) due to default, where the collateral coverage is treated as a put option with the...

The HKMA has completed a research study on the setting of mortgage rate by Authorized Institutions (AIs). The purpose of the project is to consider whether in an environment of intensive competition and, until recently, abundant liquidity in the banking system, the AIs have adequately taken into...

This paper extends the stationary-leverage-ratio model of credit risk measurement to incorporate a time-dependent target leverage ratio of a firm. The theoretical hypothesis of the existence of a time-dependent target leverage ratio reflects the movement of a firm's initial target ratio toward a...