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Dynamic margin optimization
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DOI：10.1016/j.frl.2024.105999.png)
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Abstract
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In response to the Global Financial Crisis of 2007-2009, by now, most of the financial transactions must be cleared through central counterparties operating a dynamic margin setting mechanism. High margin calls can reduce counterparty risk in a turbulent market, but at the same time, increase liquidity risk and escalate systemic risk. In this paper, we construct a theoretical model to address this challenge, deriving an optimal margin setting policy framed as a stochastic control problem. Our analysis reveals that an adaptive, countercyclical approach is superior to a purely risk-sensitive strategy, primarily by minimizing the expected loss for the clearing institution.
Keywords:
Central counterparty
Clearing
Countercyclical margin
Dynamic modelling
Stochastic control
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