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October 2016

Financial institutions are seeking ways to gain a better understanding of their credit portfolios’ risk dynamics, allowing them to foresee and to prepare for potential increases in capital requirements resulting from economic shocks.

Aubrey Clayton, Associate Director, and Xuan Liang, Assistant Director of Portfolio Research at Moody’s Analytics, will discuss how to leverage a multi-period capital planning framework to determine the appropriate capital buffer level for a portfolio under various economic scenarios and how to fortify capital buffers through portfolio selection across periods of macroeconomic stress.

Webinar Highlights:

Overview of Multi-Period Capital Analysis
Brute Force Approach
Proxy Function Approach
Related Insights
Whitepaper

Fast Projection of Reserve and Capital Requirements with Proxy Functions

An emerging business requirement for North American insurers is the ability to project forward stochastic reserve and capital requirements under various planning scenarios to a specific future date. In this paper we consider applying proxy functions to this task, using function fitting techniques described in our previous research paper Fitting Proxy Functions for Conditional Tail Expectation: Comparison of Methods.

October 2018 Pdf Aubrey Clayton, Dr. Steven Morrison
Whitepaper

A Composite Capital Measure Unifying Business Decision Rules in the Face of Regulatory Requirements Under New Accounting Standards

Prudent credit risk management ensures institutions maintain sufficient capital and limit the possibility of a capital breach. With CECL and IFRS 9, the resulting trend toward greater credit earnings volatility raises uncertainty in capital supply, ultimately causing an increase in required capital. It is ever more challenging for institutions to manage their top-of-the house capital while steering their business to achieve the desired performance level. This paper introduces an approach that quantifies the additional capital buffer an institution requires, beyond the required regulatory minimum, to limit the likelihood of a capital breach. In addition, we introduce a new measure that allocates capital and recognizes an instrument's regulatory capital requirements, loss allowance, economic concentration risks, and the instrument's contribution to the uncertainty in capital supply and demand. In-line with the Composite Capital Measure introduced in Levy and Xu (2017), this extended measure includes far-reaching implications for business decisions. Using a series of case studies, we demonstrate the limitations of alternative measures and how institutions can optimize performance by allocating capital and making business decisions according to the new measure.

May 2018 Pdf Dr. Amnon Levy, Xuan Liang, Dr. Pierre Xu
Whitepaper

Fitting Proxy Functions for Conditional Tail Expectation: Comparison of Methods

This paper details alternative methods for fitting proxy functions to CTE, employing quantile regression in combination with OLS among other techniques. We compare methods according to quality of fit for an example portfolio of variable annuities.

March 2018 Pdf Aubrey Clayton, Dr. Steven Morrison
Whitepaper

Measuring and Managing Credit Earnings Volatility of a Loan Portfolio Under IFRS 9

IFRS 9 materially changes how institutions set aside loss allowance. With allowances flowing into earnings, the new rules can have dramatic effects on earnings volatility. In this paper, we propose general methodologies to measure and manage credit earnings volatility of a loan portfolio under IFRS 9. We walk through IFRS 9 rules and the different mechanisms that it interacts with which flow into earnings dynamics. We demonstrate that earnings will be impacted significantly by credit migration under IFRS 9. In addition, the increased sensitivity to migration will be further compounded by the impact of correlation and concentration. We propose a modeling framework that measures portfolio credit earnings volatility and discuss several metrics that can be used to better manage earnings risk.

January 2017 Pdf Dr. Amnon LevyDr. Yanping PanDr. Yashan Wang, Dr. Pierre Xu, Dr. Jing Zhang, Xuan Liang
Whitepaper

Proxy Methods for Run-off CTE Capital Projection: A Life Insurance Case Study

In this paper, we show a practical application to forecasting capital requirements for real portfolios of participating whole life and annuity business, carried out in a joint research project between Moody's Analytics and New York Life Insurance Company.

October 2016 Pdf Dr. Steven Morrison, Aubrey Clayton
Whitepaper

Proxy Methods for Hedge Projection: Two Variable Annuity Case Studies

The challenge of projecting dynamic hedge portfolios for blocks of Variable Annuities (VA) with complex guarantees has proven to be extremely computationally demanding but also essential for obtaining hedging credit in reserves or capital calculations. Our previous research has argued in favor of proxy function methods such as Least Squares Monte Carlo as alternatives to full nested stochastic calculations, and we have demonstrated the successful application of these methods for hedging in simple option examples including path-dependent options. This paper extends previous work by considering actual VA products with guarantees of the kind offered by insurers in North America and Europe.

May 2016 Pdf Dr. Steven Morrison, Aubrey Clayton
Whitepaper

Multi-Period Capital Planning

This paper proposes and illustrates a multi-period capital planning framework that can be used to calculate a portfolio's capital requirement over time and to determine the appropriate capital buffer level under various economic scenarios. Such analysis can help financial institutions gain a better understanding of credit portfolios' risk dynamics, allowing them to foresee and to prepare for potential increases in capital requirements resulting from economic shocks.

April 2016 Pdf Andrew Kaplin, Xuan Liang
Whitepaper

Economic Forecast Validation: Evaluating the Calibration of Models for Interest Rates

In this paper we consider a framework for evaluating real-world probabilistic forecasts of economic variables, particularly nominal interest rates over quarterly time horizons.

June 2015 Pdf Dr. Steven Morrison, Aubrey Clayton
Whitepaper

Multi-year Modeling of Greeks Using Least Squares Monte Carlo: An Exotic Option Case Study

In this paper we extend the analysis contained in a previous case study by considering a more complex example: a lookback option. We show that the methodology can produce a similar quality of fitting performance for the lookback option as in the vanilla option case. We also discuss the methodology adjustments necessary for the Greeks fitting strategy in order to accurately fit to forms of path-dependent, exotic options such as lookbacks.

January 2014 Pdf Aubrey Clayton, Dr. Steven Morrison, Craig Turnbull, Karthik Vijayapalan
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