Cecilia Parlatore, NYU Stern School of Business

As part of the ser­ies of the "Fin­ance Re­search Sem­inar", VGSF wel­comes Cecilia Par­lat­ore from the NYU Stern School of Busi­ness to present her re­search pa­per.
Per­sonal Webpage

Pa­per

Design­ing Stress Scen­arios

We develop a tract­able frame­work to study the op­timal design of stress scen­arios. A prin­cipal wants to man­age the un­known risk ex­pos­ures of a set of agents. She asks the agents to re­port their losses un­der hy­po­thet­ical scen­arios be­fore man­dat­ing ac­tions to mit­ig­ate the ex­pos­ures. We show how to ap­ply a Kal­man fil­ter to solve the learn­ing prob­lem and we char­ac­ter­ize the scen­ario design as a func­tion of the risk en­vir­on­ment, the prin­cipal’s pref­er­ences, and the avail­able re­medial ac­tions. We ap­ply our res­ults to bank­ing stress tests. We show how the prin­cipal learns from es­tim­ated losses un­der dif­fer­ent scen­arios and across dif­fer­ent banks. Op­timal cap­ital re­quire­ments are set to cover losses un­der an ad­vers scen­ario while tar­geted in­ter­ven­tions de­pend on the co­v­ari­ance between re­sid­ual ex­pos­ure un­cer­tainty and phys­ical risks.