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Vine Copula based portfolio level conditional risk measure forecasting

Author

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  • Emanuel Sommer
  • Karoline Bax
  • Claudia Czado

Abstract

Accurately estimating risk measures for financial portfolios is critical for both financial institutions and regulators. However, many existing models operate at the aggregate portfolio level and thus fail to capture the complex cross-dependencies between portfolio components. To address this, a new approach is presented that uses vine copulas in combination with univariate ARMA-GARCH models for marginal modelling to compute conditional portfolio-level risk measure estimates by simulating portfolio-level forecasts conditioned on a stress factor. A quantile-based approach is then presented to observe the behaviour of risk measures given a particular state of the conditioning asset(s). In a case study of Spanish equities with different stress factors, the results show that the portfolio is quite robust to a sharp downturn in the American market. At the same time, there is no evidence of this behaviour with respect to the European market.

Suggested Citation

  • Emanuel Sommer & Karoline Bax & Claudia Czado, 2022. "Vine Copula based portfolio level conditional risk measure forecasting," Papers 2208.09156, arXiv.org, revised Feb 2023.
    • Handle: RePEc:arx:papers:2208.09156
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    References listed on IDEAS

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    1. Aas, Kjersti & Czado, Claudia & Frigessi, Arnoldo & Bakken, Henrik, 2009. "Pair-copula constructions of multiple dependence," Insurance: Mathematics and Economics, Elsevier, vol. 44(2), pages 182-198, April.
    2. Charu Sharma & Niteesh Sahni, 2021. "A mutual information based R-vine copula strategy to estimate VaR in high frequency stock market data," PLOS ONE, Public Library of Science, vol. 16(6), pages 1-16, June.
    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.
    4. Carlo Acerbi & Dirk Tasche, 2002. "Expected Shortfall: A Natural Coherent Alternative to Value at Risk," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 31(2), pages 379-388, July.
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