Market Tremors: Quantifying Structural Risks in Modern Financial Markets

The structure of financial markets has undergone a dramatic shift since the Global Financial Crisis, with risk building up beneath the surface due to excessive leverage and crowded exposure to specific asset classes and strategies. This book provides a practical and wide-ranging framework for dealing with the credit, positioning, and liquidity risk that investors face in the modern age, introducing concrete techniques for adjusting traditional risk measures such as volatility during this era of unprecedented balance sheet expansion. The authors have drawn from the fields of statistical physics and game theory to simplify and quantify the impact of very large agents on the distribution of forward returns and offer techniques for dealing with situations where markets are structurally risky yet realized volatility is low.

Format: Paperback / softback
Length: 248 pages
Publication date: 15 September 2021
Publisher: Springer Nature Switzerland AG

The financial landscape has undergone a significant transformation since the onset of the Global Financial Crisis. Modern markets have been profoundly impacted by a convergence of factors, including Central Bank policies, regulatory measures that disintermediate commercial banks, and the proliferation of passive products like exchange-traded funds (ETFs). This shift has led to the emergence of a new risk landscape, where risk builds up beneath the surface, often obscured by historical volatility estimates.

In many cases, traditional risk measures, such as volatility, fail to capture the full extent of prospective risk. This book offers a comprehensive and practical framework for addressing the credit, positioning, and liquidity risks that investors face in the modern era. The authors introduce innovative techniques for adapting traditional risk measures to account for the unique challenges posed by the era of unprecedented balance sheet expansion.

One of the key challenges in modern markets is the behavior of certain agents, which can deviate significantly from historical patterns. Traditional portfolio theory, which relies on the assumption of rational behavior and efficient markets, breaks down when these agents behave differently or in larger scale. The authors address this issue by introducing feedback-based risk adjustments that enable investors to size their positions sensibly in dangerous setups where volatility is not providing an accurate measure of true risk.

Drawing from the fields of statistical physics and game theory, the authors simplify and quantify the impact of very large agents on the distribution of forward returns. They offer techniques for navigating situations where markets are structurally risky yet realized volatility is low. These concepts have practical implications for portfolio managers, asset allocators, and risk professionals, as well as academic interest for scholars and theorists.

In conclusion, the structure of financial markets has undergone a dramatic shift since the Global Financial Crisis. Modern markets are characterized by a combination of Central Bank policies, regulatory measures, and the growth of passive products. This shift has led to the emergence of new risk factors that require innovative approaches for managing and mitigating. This book provides a valuable framework for addressing the credit, positioning, and liquidity risks that investors face in the modern age, drawing from the fields of statistical physics and game theory to offer practical solutions.

Weight: 409g
Dimension: 235 x 155 (mm)
ISBN-13: 9783030792527
Edition number: 1st ed. 2021