Statistical Modelling 4 (2004), 265–277
Integrated risk modelling
Xeni K. Dimakos and Kjersti Aas
The Norwegian Computer Center,
P.O. Box 114, Blindern
N-0314 Oslo,
Norway
eMail:
xeni.dimakos@nr.no
Abstract:
In this article, we present a new approach to modelling the total
economic capital required to protect a financial institution against
possible losses. The approach takes into account the correlation
between risk types, and in this respect, it improves upon the
conventional practice that assumes perfectly correlated risks. A
statistical model is built, and Monte Carlo simulation is used to
estimate the total loss distribution. The methodology has been
implemented in the Norwegian financial group DnB's system for risk
management. Incorporating current expert knowledge of relationships
between risks, rather than taking the most conservative stand, gives
a 20% reduction in the total economic capital for a one year time
horizon.
Keywords:
diversification; integrated risk modelling; Monte Carlo simulation;
total economical capital
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