Diversification practices by banks affect their own risk of failing and the risk of the banking system as a whole (systemic risk). A seminal theoretical work has shown that linear diversification can reduce the risk of a bank failing, but at the cost of increasing systemic risk. Later, a...

One of the controversies of diversification is that it may not be beneficial to banks, as it tends to increase systemic risk. Recent theoretical and empirical work have addressed this problem. We argue, from a theoretical perspective, that this controversy ultimately depends on how risk is...

Purpose: This paper aims to illustrate, within the context of a well-known linear diversification model, that risk management as exerted by banks and regulators ultimately depends on how risk is assessed and conceptualized. The two risk metrics used are the probability of bank failure and value...

A new insurance provider or a regulatory agency may be interested in determining a risk measure consistent with observed market prices of a collection of risks. Using a relationship between distorted coherent risk measures and spectral risk measures, we provide a method for reconstructing...

The maximum entropy principle provides a variational method to select a measure yielding pre-assigned mean values to a random variable. It can also be invoked to construct measures that render a stochastic process a martingale, thus providing a systematic way of constructing risk-neutral...

Here we present an application of two maxentropic procedures to determine the probability density distribution of compound sums of random variables, using only a finite number of empirically determined fractional moments. The two methods are the Standard method of Maximum Entropy (SME), and the...

In a previous paper we studied a method to determine the probability density of barrier crossing times by a Brownian motion from the knowledge of its Laplace transform. This knowledge combined with the method of maximum entropy yields quite good reconstructions. The aim of this work is to extend...

In this paper, we describe a general method for constructing the posterior distribution of an option price. Our framework takes as inputs the prior distributions of the parameters of the stochastic process followed by the underlying, as well as the likelihood function implied by the observed...

Previous work of J.T. Lewis is extended to include diffusions on level sets of functions [phi]n-->k with n >k in terms of the coordinates of the host space. The particular case k = 1 extends previous related work of M. van den Berg and J.T. Lewis.

Mounting empirical evidence suggests that the observed extreme prices within a trading period can provide valuable information about the volatility of the process within that period. In this paper we define a class of stochastic volatility models that uses opening and closing prices along with...