'Working Paper' in Collaboration with International Monetary Fund: "Evolution of the Global Financial Network and Contagion: A New Approach"

A 'working paper' from a collaboration with folks from the International Monetary Fund (IMF) came out today. You can download it from this website. We also hope to submit a version of this work to a journal for publication. Here are some details.

Title: Evolution of the Global Financial Network and Contagion: A New Approach

Authors: Yevgeniya Korniyenko, Manasa Patnam, Rita Maria del Rio-Chanon, and Mason A. Porter

Abstract: This paper studies the interconnectedness of the global financial system and its susceptibility to shocks. A novel multilayer network framework is applied to link debt and equity exposures across countries. Use of this approach—that examines simultaneously multiple channels of transmission and their important higher order effects—shows that ignoring the heterogeneity of financial exposures, and simply aggregating all claims, as often done in other studies, can underestimate the extent and effects of financial contagion.The structure of the global financial network has changed since the global financial crisis, impacted by European bank’s deleveraging and higher corporate debt issuance. Still, we find that the structure of the system and contagion remain similar in that network is highly susceptible to shocks from central countries and those with large financial systems (e.g., the USA and the UK). While, individual European countries (excluding the UK) have relatively low impact on shock propagation, the network is highly susceptible to the shocks from the entire euro area. Another important development is the rising role of the Asian countries and the noticeable increase in network susceptibility to shocks from China and Hong Kong SAR economies.

"Quasi-Centralized Limit Order Books"

One of my papers got assigned its final journal coordinates today. (It came out a few months ago in advanced access.) Here are the details.

Title: Quasi-Centralized Limit Order Books

Authors: Martin D. Gould, Mason A. Porter, and Sam D. Howison

Abstract: A quasi-centralized limit order book (QCLOB) is a limit order book (LOB) in which financial institutions can only access the trading opportunities offered by counterpartieswithwhomthey possess sufficient bilateral credit. In this paper, we perform an empirical analysis of a recent, high-quality data set from a large electronic trading platform that utilizes QCLOBs to facilitate trade. We argue that the quote-relative framework often used to study other LOBs is not a sensible reference frame for QCLOBs, so we instead introduce an alternative, trade-relative framework, which we use to study the statistical properties of order flow and LOB state in our data. We also uncover an empirical universality: although the distributions that describe order flow and LOB state vary considerably across days, a simple, linear rescaling causes them to collapse onto a single curve. Motivated by this finding, we propose a semi-parametric model of order flow and LOB state for a single trading day. Our model provides similar performance to that of parametric curve-fitting techniques but is simpler to compute and faster to implement.

Tales from the ArXiv: Systemic Risk in a Galaxy Far, Far Away

Yes, really.

The abstract begins: In this paper we study the financial repercussions of the destruction of two fully armed andoperational moon-sized battle stations ("Death Stars") in a 4-year period and the dissolution ofthe galactic government in Star Wars.

(Tip of the cap to Guido Caldarelli.)

Finance Fairy Tails

Pretty much.

Dysfunctional Markets: Featuring Principal Component Analysis

Here is a video describing some insights based on research by my former Ph.D. student Dan Fenn. There is some discussion of this work in his Ph.D. thesis and also in this paper.

Somehow, when the media gets ahold of it, a "PCA" turns into a kind of "Risk On, Risk Off index". (Actually, I think HSBC chose to use that name.)

(Tip of the cap to Stacy Williams of HSBC.)

Monkeying Around with Investments

Apparently, monkeys can do more than just rank football teams. Money quote: It shows that financial knowledge does not play a great role in giving forecasts to how the market will change. It is usually a matter of more or less successful guessing. And the monkey got lucky.

(Tip of the cap to Martin Gould.)

Quote of the Day (it's all our fault)

Today's quote comes from Representative Maxine Waters [D-CA], who uttered the following comment about the financial crisis on the February 20th edition of Real Time with Bill Maher:

"But we're not going to change that until we put some people in jail. [Applause. Cheers.] We have got to take the schemers who have conspired by hiring these mathematicians and others to come up with these exotic products that rip people off and put them in homes that they could not afford ..."

Yeah, hiring mathematicians is a conspiracy. For thoughts on similar topics, see a blog entry by Arcane Gazebo.

Tip of the hat to the AMS Math in the Media webpage.

Now I better get back to working on my paper on community detection in currency exchange networks (with a focus on data from the current credit crisis)...

Nature's Casino: Catastrophe Insurance and Heavy Tails

Courtesy David Richard, here is an interesting (but very long!) article on catastrophe insurance.

The part that was most interesting to me was the discussion of heavy-tailed phenomena like catastrophes and how one prices insurance for them as a result of that. (The mathematical problem is that the events are so rare that one does not have a large amount of data to get good results by itself. One of the things around this at which the article hints briefly is to use physical models to generate tons of data and then use that to help with the predictions, though that was tangential to the article's crux.)

Also, while the article is interesting, I do find it a bit creepy that there are basically gamblers betting on future Katrinas and that that has become an enormous business since that disaster struck. (The cynic in me isn't surprised, but I do feel somehow disappointed.)

Finally, the author of the article, Michael Lewis, also wrote Moneyball (which has a more baseball-oriented theme).