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Trading activities in financial systems create various channels through which systemic risk can propagate. An important contagion channel is financial fire sales, where a bank failure causes asset prices to fall due to asset liquidation, which in turn drives further bank defaults, triggering the next rounds of liquidation. This process can be considered as complex contagion, yet it cannot be modeled using the convent…
We consider a network of banks that optimally choose a strategy of asset liquidations and borrowing in order to cover short term obligations. The borrowing is done in the form of collateralized repurchase agreements, the haircut level of which depends on the total liquidations of all the banks. Similarly the fire-sale price of the asset obtained by each of the banks depends on the amount of assets liquidated by the b…
Fire sales are among the major drivers of market instability in modern financial systems. Due to iterated distressed selling and the associated price impact, initial shocks to some institutions can be amplified dramatically through the network induced by portfolio overlaps. In this paper, we develop a mathematical framework that allows us to investigate central characteristics that drive or hinder the propagation of …
This paper provides a framework for modeling the financial system with multiple illiquid assets when liquidation of illiquid assets is caused by failure to meet a leverage requirement. This extends the network model of Cifuentes, Shin & Ferrucci (2005) which incorporates a single asset with fire sales and capital adequacy ratio. This also extends the network model of Feinstein (2015) which incorporates multiple illiq…
Credit and liquidity risks represent main channels of financial contagion for interbank lending markets. On one hand, banks face potential losses whenever their counterparties are under distress and thus unable to fulfill their obligations. On the other hand, solvency constraints may force banks to recover lost fundings by selling their illiquid assets, resulting in effective losses in the presence of fire sales - th…
This paper investigates the investment behaviour of a large unregulated financial institution (FI) with CARA risk preferences. It shows how the FI optimizes its trading to account for market illiquidity using an extension of the Almgren-Chriss market impact model of multiple risky assets. This expected utility optimization problem over the set of adapted strategies turns out to have the same solutions as a mean-varia…
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…
We show that net demand for liquidity by algo strategies is identifiable from its trade and price history alone, with no knowledge of its signal or optimization problem. An exact multi-period regret decomposition implies that the sign of this statistic classifies a linear strategy as a net liquidity consumer or provider, recovering the Kyle (1985) informed-trader/market-maker dichotomy from observables alone. Under a…
We introduce a simple model of depositor runs to capture run risks at financial institutions based on their balance sheet composition. Specifically, we consider a reduced potential to raise capital from liquidity buffers under stress, during a stylized run driven by depositor scrutiny and further fueled by fire sales in response to withdrawals. The setup is inspired by the Silicon Valley Bank meltdown in March 2023 a…
By exploiting a bipartite network representation of the relationships between mutual funds and portfolio holdings, we propose an indicator that we derive from the analysis of the network, labelled the Average Commonality Coefficient (ACC), which measures how frequently the assets in the fund portfolio are present in the portfolios of the other funds of the market. This indicator reflects the investment behavior of fu…
This paper provides a general framework for modeling financial contagion in a system with obligations in multiple illiquid assets (e.g., currencies). In so doing, we develop a multi-layered financial network that extends the single network of Eisenberg and Noe (2001). In particular, we develop a financial contagion model with fire sales that allows institutions to both buy and sell assets to cover their liabilities i…
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.…
In this work, we introduce PEARL (Private Equity Accessibility Reimagined with Liquidity), an AI-powered framework designed to replicate and decode private equity funds using liquid, cost-effective assets. Relying on previous research methods such as Erik Stafford's single stock selection (Stafford) and Thomson Reuters - Refinitiv's sector approach (TR), our approach incorporates an additional asymmetry to capture th…
Non Fungible Token (NFT) Industry has been witnessing multi-million dollar trade in recent times. With rapid innovation of the NFT market environment by technology, innovation, and decentralization, it is becoming hard to distinguish between genuine NFT from fads and scams. This article discuss the NFT market microstructure, with a focus on price formation, market structure, transparency, and applications to other fi…
The principal portfolios of the standard Capital Asset Pricing Model (CAPM) are analyzed and found to have remarkable hedging and leveraging properties. Principal portfolios implement a recasting of any correlated asset set of N risky securities into an equivalent but uncorrelated set when short sales are allowed. While a determination of principal portfolios in general requires a detailed knowledge of the covariance…
This study identifies and quantifies a significant informational friction embedded in the SEC Form 144 disclosure regime, characterized as predictive decoupling. Drawing on a theoretical foundation of welfare economics, the article argues that the current reporting inversion -- where trade execution (Form 4) frequently precedes the public notice of intent (Form 144) -- violates the conditions for Pareto efficiency by…
In the LIBOR era, banks routinely tied revolving credit facilities to credit-sensitive benchmarks. This study assesses the Across-the-Curve Credit Spread Index (AXI) -- a transparent, transaction-based measure of wholesale bank funding costs -- as a complement to SOFR, summarizing its behavior, construction, and loan-pricing implications. AXI aggregates observable unsecured funding transactions across short- and long…
In this article, we develop a model for the evolution of real estate prices. A wide range of inputs, including stochastic interest rates and changing demands for the asset, are considered. Maximizing their expected utility, home owners make optimal sale decisions given these changing market conditions. Using these optimal sale decisions, we simulate the implied evolution of housing prices providing insights into the …
Bidless means there is no meaningful posted or workable bid — you can sell only by walking the stairs or waiting, which is how fire sales become prices.
An externality is a cost or benefit imposed on a third party that is not priced in the original transaction — fire sales, contagion, and pollution are the same object in different clothes.
The 2007–09 global financial crisis was a wholesale-run on securitized credit and dealer balance sheets after US housing turned — the modern template for shadow-bank runs, fire sales, and a central-bank-as-market-maker.
Bidless means there is no meaningful posted or workable bid — you can sell only by walking the stairs or waiting, which is how fire sales become prices.
An externality is a cost or benefit imposed on a third party that is not priced in the original transaction — fire sales, contagion, and pollution are the same object in different clothes.
The 2007–09 global financial crisis was a wholesale-run on securitized credit and dealer balance sheets after US housing turned — the modern template for shadow-bank runs, fire sales, and a central-bank-as-market-maker.