We present a stochastic simulation forecasting model for stress testing that is aimed at assessing banks’ capital adequacy, financial fragility, and probability of default. The paper provides a theoretical presentation of the methodology and the essential features of the forecasting model on...

This paper suggests a model based on Poisson processes to estimate joint credit losses without the limitations of normality assumptions and non-negative correlation. Idiosyncratic and systematic risks are seen as “shocks” and defaults are driven by a latent variable (loans' lifetimes). The...

This study formulates portfolio analysis in terms of Stochastic Dominance, Relative Entropy and Empirical Likelihood. We define a portfolio inefficiency measure based on the divergence between given probabilities and the nearest probabilities that rationalize a given portfolio for some...

We develop and implement linear formulations of convex stochastic dominance relations based on decreasing absolute risk aversion for discrete and polyhedral choice sets. Our approach is based on a piecewise-exponential representation of utility and a local linear approximation to the...

We propose a new Stochastic Dominance (SD) criterion based on standard risk aversion, which assumes decreasing absolute risk aversion and decreasing absolute prudence. To implement the proposed criterion, we develop linear systems of optimality conditions for a given prospect relative to a...

We develop and implement linear formulations of general N-th order Stochastic Dominance criteria for discrete probability distributions. Our approach is based on a piece-wise polynomial representation of utility and its derivatives and can be implemented by solving a relatively small system of...

In this paper, we investigate the following problem: How can a financial institution, which has sold an option to a client, optimally hedge the payoff of this option by investing into a stock and into the option itself? Optimality is measured in terms of minimal variance and the associated...

This paper addresses the following question: How can a financial institution, which has issued a European option, optimally hedge the payoff of this option by investing into the underlying stock and into the option itself? Here, optimality is measured in terms of minimal variance and the...