What is it about?
Allocating risk properly to subunits is crucial for performance evaluation and internal capital allocation of portfolios held by banks, insurance companies, investment funds and other entities subject to financial risk. Using coherent measures of risk (Expected Shortfall being a prominent example) there is a diversification effect that should be allocated in a fair way. We consider fairness properties for illiquid portfolios.
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Why is it important?
We show that in practice it is impossible to satisfy a stability, an anonymity and an incentive compatibility requirement at the same time, one has to give up at least one of them.
Perspectives
The paper is part of a bigger project. We have analyzed stability in "Stable allocations of risk", stability and incentive compatibility in the paper "On the impossibility of fair risk allocation", whereas to help in applications, we have compared 7 methods in terms of 10 properties in "Properties and comparison of risk capital allocation methods". We are building on the base model for illiquid portfolios, published as "Risk allocation under liquidity constraints".
Dr Péter Csóka
Read the Original
This page is a summary of: Fair risk allocation in illiquid markets, Finance Research Letters, May 2017, Elsevier,
DOI: 10.1016/j.frl.2016.11.007.
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