Quantification of systemic risk from overlapping portfolios in the financial system

Poledna, S., Martínez-Jaramillo, S., Caccioli, F., & Thurner, S. (2021). Quantification of systemic risk from overlapping portfolios in the financial system. Journal of Financial Stability 52 e100808. 10.1016/j.jfs.2020.100808.

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Financial markets create endogenous systemic risk, the risk that a substantial fraction of the system ceases to function and collapses. Systemic risk can propagate through different mechanisms and channels of contagion. One important form of financial contagion arises from indirect interconnections between financial institutions mediated by financial markets. This indirect interconnection occurs when financial institutions invest in common assets and is referred to as overlapping portfolios. In this work we quantify systemic risk from indirect interconnections between financial institutions. Complete information of security holdings of major Mexican financial intermediaries and the ability to uniquely identify securities in their portfolios, allows us to represent the Mexican financial system as a bipartite network of securities and financial institutions. This makes it possible to quantify systemic risk arising from overlapping portfolios. We show that focusing only on direct interbank exposures underestimates total systemic risk levels by up to 50% under the assumptions of the model. By representing the financial system as a multi-layer network of direct interbank exposures (default contagion) and indirect external exposures (overlapping portfolios) we estimate the mutual influence of different channels of contagion. The method presented here is the first quantification of systemic risk on national scales that includes overlapping portfolios.

Item Type: Article
Uncontrolled Keywords: Systemic risk; Overlapping portfolios; financial networks; financial regulation; multi-layer networks
Research Programs: Advancing Systems Analysis (ASA)
Advancing Systems Analysis (ASA) > Exploratory Modeling of Human-natural Systems (EM)
Depositing User: Michaela Rossini
Date Deposited: 16 Oct 2020 11:20
Last Modified: 21 Feb 2022 08:33
URI: https://pure.iiasa.ac.at/16785

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