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Spectral Risk Measures: Properties and Limitations

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  • Kevin Dowd
  • John Cotter
  • Ghulam Sorwar

Abstract

Spectral risk measures (SRMs) are risk measures that take account of user risk-aversion, but to date there has been little guidance on the choice of utility function underlying them. This paper addresses this issue by examining alternative approaches based on exponential and power utility functions. A number of problems are identified with both types of spectral risk measure. The general lesson is that users of spectral risk measures must be careful to select utility functions that fit the features of the particular problems they are dealing with, and should be especially careful when using power SRMs.
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Suggested Citation

  • Kevin Dowd & John Cotter & Ghulam Sorwar, 2008. "Spectral Risk Measures: Properties and Limitations," Journal of Financial Services Research, Springer;Western Finance Association, vol. 34(1), pages 61-75, August.
    • Handle: RePEc:kap:jfsres:v:34:y:2008:i:1:p:61-75
    DOI: 10.1007/s10693-008-0035-6
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    References listed on IDEAS

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    1. Bertsimas, Dimitris & Lauprete, Geoffrey J. & Samarov, Alexander, 2004. "Shortfall as a risk measure: properties, optimization and applications," Journal of Economic Dynamics and Control, Elsevier, vol. 28(7), pages 1353-1381, April.
    2. Cotter, John & Dowd, Kevin, 2006. "Extreme spectral risk measures: An application to futures clearinghouse margin requirements," Journal of Banking & Finance, Elsevier, vol. 30(12), pages 3469-3485, December.
    3. Philippe Artzner & Freddy Delbaen & Jean‐Marc Eber & David Heath, 1999. "Coherent Measures of Risk," Mathematical Finance, Wiley Blackwell, vol. 9(3), pages 203-228, July.
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    More about this item

    Keywords

    Coherent risk measures; Spectral risk measures; Exponential utility; Power utility; G15;
    All these keywords.

    JEL classification:

    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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