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Journal of Financial Econometrics Advance Access originally published online on March 10, 2009
Journal of Financial Econometrics 2009 7(3):265-287; doi:10.1093/jjfinec/nbp003
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© The Author 2009. Published by Oxford University Press. All rights reserved. For Permissions, please e-mail: journals.permissions@oxfordjournals.org.

Measuring Event Risk

Peter Nyberg
     Hanken School of Economics

Anders Wilhelmsson
     Lund University

Address correspondence to Anders Wilhelmsson, School of Economics and Management, Department of Economics, Lund University, P.O. Box 7082 S-220 07, Lund, Sweden, or e-mail: anders.vilhelmsson{at}nek.lu.se

JEL Classification: C22, G21, G28


  Abstract

This paper decomposes the popular risk measure Value-at-Risk (VaR) into one jump- and one continuous component. The continuous component corresponds to general market risk and the jump component is proportional to the event risk as defined in the Basel II accord. We find that event risk, which is currently not incorporated into most banks' VaR models, comprises a substantial part of total VaR. It constitutes 30% of the risk for a portfolio of small cap stocks but less than 1% for a portfolio of large cap stocks. The national supervising agency in each membership country is advised by the Basel rules to add an additional capital charge to a bank whose models do not capture event risk. The large variation in event risk, also found across 10 individual stocks, suggests that an approach that varies the capital surcharge, based on the type of asset, should be used by the supervisors.

KEYWORDS: event risk, jumps, NIG distribution, Value-at-Risk

We would like to thank an associate editor and a referee for extensive comments on the paper. Comments from the participants at the Arne Ryde workshop in Financial Economics 2008 are much appreciated. This work was supported by The Bank Research Foundation.

Received July 17, 2008; revised February 18, 2009; accepted February 18, 2009


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