Working Paper: NBER ID: w16223
Authors: Monica Billio; Mila Getmansky; Andrew W. Lo; Loriana Pelizzon
Abstract: We propose several econometric measures of systemic risk to capture the interconnectedness among the monthly returns of hedge funds, banks, brokers, and insurance companies based on principal components analysis and Granger-causality tests. We find that all four sectors have become highly interrelated over the past decade, increasing the level of systemic risk in the finance and insurance industries. These measures can also identify and quantify financial crisis periods, and seem to contain predictive power for the current financial crisis. Our results suggest that hedge funds can provide early indications of market dislocation, and systemic risk arises from a complex and dynamic network of relationships among hedge funds, banks, insurance companies, and brokers.
Keywords: systemic risk; hedge funds; banks; brokers; insurance companies; Granger causality; principal components analysis
JEL Codes: C51; G12; G29
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| interconnectedness among hedge funds, banks, brokers, and insurance companies (F65) | systemic risk (E44) |
| movements in hedge fund returns (G11) | changes in the broader financial market (G19) |
| changes in market conditions (D49) | relationships among financial institutions (G20) |
| returns of banks and insurers (G21) | returns of hedge funds and brokers (G24) |
| returns of hedge funds and brokers (G24) | returns of banks and insurers (G21) |