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Forming quantitative portfolios using statistical risk models presents a significant challenge for hedge funds and portfolio managers. This research investigates three distinct statistical risk models to construct quantitative portfolios of 1,000 floating stocks in the US market. Utilizing five different investment strategies, these models are tested across four periods, encompassing the last three major financial cr…
We present conditions under which positive alpha exists in the realm of active portfolio management- in contrast to the controversial result in Jarrow (2010, pg. 20) which implicates delegated portfolio management by surmising that positive alphas are illusionary. Specifically, we show that the critical assumption used in Jarrow (2010, pg. 20), to derive the illusionary alpha result, is based on a zero set for CAPM w…
We introduce a trade strategy representation theorem for performance measurement and portable alpha in high frequency trading, by embedding a robust trading algorithm that describe portfolio manager market timing behavior, in a canonical multifactor asset pricing model. First, we present a spectral test for market timing based on behavioral transformation of the hedge factors design matrix. Second, we find that the t…
Before the 2008 financial crisis, most research in financial mathematics focused on pricing options without considering the effects of counterparties' defaults, illiquidity problems, and the role of the sale and repurchase agreement (Repo) market. Recently, models were proposed to address this by computing a total valuation adjustment (XVA) of derivatives; however without considering a potential crisis in the market.…
We implement a market microstructure model including informed, uninformed and heuristic-driven investors, which latter behave in line with loss-aversion and mental accounting. We show that the probability of informed trading (PIN) varies significantly during 2008. In contrast, the probability of heuristic-driven trading (PH) remains constant both before and after the collapse of Lehman Brothers. Cross-sectional analy…
An order-book market whose liquidity provision is anchored to a fundamental value carries a restoring force: the price mean-reverts to value and the book refills after a shock. We show this restoring force is a robust intrinsic stabiliser and identify it causally-dialling the anchor down removes the mean-reversion, and a leverage-driven fire-sale then self-sustains. Separately, we ask whether a stressed market transm…
Hit ratio is a common service metric for electronic corporate bond market making, but raw hit-ratio targets can be economically misleading when client flow has heterogeneous adverse-selection content. This paper extends a stochastic-control framework for OTC bond RFQ market making with hit-ratio constraints by replacing raw hit ratio with a residual-quality-adjusted hit ratio. The key modelling distinction is that ad…
We develop a rigorous walk-forward validation framework for algorithmic trading designed to mitigate overfitting and lookahead bias. Our methodology combines interpretable hypothesis-driven signal generation with reinforcement learning and strict out-of-sample testing. The framework enforces strict information set discipline, employs rolling window validation across 34 independent test periods, maintains complete int…
We propose a new pseudo-Siamese Network for Asset Pricing (SNAP) model, based on deep learning approaches, for conditional asset pricing. Our model allows for the deep alpha, deep beta and deep factor risk premia conditional on high dimensional observable information of financial characteristics and macroeconomic states, while storing the long-term dependency of the informative features through long short-term memory…
Modern economic systems face unprecedented socioeconomic challenges, making systemic resilience and effective liquidity flow management essential. Traditional models such as CAPM, VaR, and GARCH often fail to reflect real market fluctuations and extreme events. This study develops and validates an innovative mathematical model based on the Navier-Stokes equations, aimed at the quantitative assessment, forecasting, an…
We study the formation of an optimal interbank network in a model where banks control both their supply of liquidity, through cash reserves, and their exposures to other banks' risky projects. The value of each bank's project may suddenly decline depending on their cash reserves and both the occurence and magnitude of liquidity shocks. In two distinct settings, we solve the system-wide optimal control problem and obt…
Empirical data reveals that the liquidity flow into the order book (depositions, cancellations andmarket orders) is influenced by past price changes. In particular, we show that liquidity tends todecrease with the amplitude of past volatility and price trends. Such a feedback mechanism inturn increases the volatility, possibly leading to a liquidity crisis. Accounting for such effects withina stylized order book mode…
In this paper, we empirically study models for pricing Italian sovereign bonds under a reduced form framework, by assuming different dynamics for the short-rate process. We analyze classical Cox-Ingersoll-Ross and Vasicek multi-factor models, with a focus on optimization algorithms applied in the calibration exercise. The Kalman filter algorithm together with a maximum likelihood estimation method are considered to f…
Financial contagion from liquidity shocks has being recently ascribed as a prominent driver of systemic risk in interbank lending markets. Building on standard compartment models used in epidemics, in this work we develop an EDB (Exposed-Distressed-Bankrupted) model for the dynamics of liquidity shocks reverberation between banks, and validate it on electronic market for interbank deposits data. We show that the inte…
In this paper, we search whether the Benford's law is applicable to monitor daily changes in sovereign Credit Default Swaps (CDS) quotes, which are acknowledged to be complex systems of economic content. This test is of paramount importance since the CDS of a country proxy its health and probability to default, being associated to an insurance against the event of its default. We fit the Benford's law to the daily ch…
We study insolvency cascades in an interbank system when banks are allowed to insure their loans with credit default swaps (CDS) sold by other banks. We show that, by properly shifting financial exposures from one institution to another, a CDS market can be designed to rewire the network of interbank exposures in a way that makes it more resilient to insolvency cascades. A regulator can use information about the topo…
In this article, we present a discrete time modeling framework, in which the shape and dynamics of a Limit Order Book (LOB) arise endogenously from an equilibrium between multiple market participants (agents). We use the proposed modeling framework to analyze the effects of trading frequency on market liquidity in a very general setting. In particular, we demonstrate the dual effect of high trading frequency. On the …
Changes in collateralization have been implicated in significant default (or near-default) events during the financial crisis, most notably with AIG. We have developed a framework for quantifying this effect based on moving between Merton-type and Black-Cox-type structural default models. Our framework leads to a single equation that emcompasses the range of possibilities, including collateralization remargining freq…