Assessing performance of liquidity adjusted value
Description
In this paper, a portfolio-level Liquidity Adjusted Value at Risk model is formulated by using the adapted approach based on the Cornish-Fisher expansion technique to account for non-normality in liquidity risk. Most models ignore the fact that liquidity costs which measure market liquidity are non-normally distributed and this leads to a severe underestimation of the total risk. The Cornish-Fisher expansion technique, as proposed by prior studies is used for correcting the percentiles of a standard normal distribution for non-normality and is simple to implement in practice. The empirical evidence obtained in this study shows that accounting for non-normality at portfolio level and using the modified approach produces much more accurate results than alternative risk estimation methodologies. The model is tested using emerging markets data as research on liquidity that primarily focuses on emerging markets yield particularly powerful tests and useful independent evidence since liquidity premium is an important feature of these data.
Copyright Date
January 2016
Publication Date
1-1-2016
Keywords
Value at risk, Liquidity costs, Emerging markets
Conference
9th International Risk Management Conference,14th June, 2016, Jerusalem
