Value at risk, legislative framework, crises, and procyclicality: What goes wrong?

Document Type

Article

Source of Publication

Review of Economic Analysis

Publication Date

1-1-2020

Abstract

This study highlights some deficiencies of the stock markets’ risk legislation framework, and particularly the CESR (2010) guidelines. We show that the current legislative framework fails to offer incentives to financial management companies to invest in advanced models for more representative Value at Risk (VaR) estimations, and for this reason, in many cases conventional VaR models are applied. We use data from the DAX, CAC 40, FTSE, FTSEMIB and IBEX indices, and then we apply them to the widely accepted Delta Normal VaR model. The empirical findings show that the conventional VaR models not only fail to provide information for the upcoming financial crises, but also contribute to such phenomena as procyclicality and overreaction in the stock market. We suggest additional tests and we empirically show how these tests could reduce the procyclicality issue and promote a more sustainable investment environment. Even though this study is mainly focused on CESR (2010) guidelines, it could be useful for any similar legislative framework, such as the Basel Accords.

Publisher

Rimini Centre for Economic Analysis

Volume

12

Issue

3

First Page

345

Last Page

369

Disciplines

Business

Keywords

Financial regulation, Procyclicality, Value at Risk

Scopus ID

85085375195

Indexed in Scopus

yes

Open Access

yes

Open Access Type

Green: A manuscript of this publication is openly available in a repository

Link to Full Text

Share

COinS