LiquidityRiskChapter 21RiskManagementandFinanciallnstitutions3e,Chapter21,CopyrightJohnC.Hull2012
Risk Management and Financial Institutions 3e, Chapter 21, Copyright © John C. Hull 2012 Liquidity Risk Chapter 21 1
RiskTypes ofLiquidityLiquidity trading riskLiquidity funding risk2RiskManagementandFinancialInstitutions3e,Chapter21,CopyrightJohnC.Hull2012
Types of Liquidity Risk ⚫ Liquidity trading risk ⚫ Liquidity funding risk Risk Management and Financial Institutions 3e, Chapter 21, Copyright © John C. Hull 2012 2
Liquidity Trading Risk Price received for an asset depends onThe mid market priceHow much is to be soldHow quickly it is to be soldThe economic environmentAlso we found in August 2007transparency is factor that affects liquidity3RiskManagementandFinancialInstitutions3e,Chapter21,CopyrightJohnC.Hull2012
Liquidity Trading Risk ⚫ Price received for an asset depends on ⚫ The mid market price ⚫ How much is to be sold ⚫ How quickly it is to be sold ⚫ The economic environment ⚫ Also we found in August 2007 transparency is factor that affects liquidity Risk Management and Financial Institutions 3e, Chapter 21, Copyright © John C. Hull 2012 3
Bid-Offer Spread As a Function ofQuantity (Figure 21.1, page 448)OfferPriceBid PriceQuantityRiskManagementandFinancialInstitutions3e,Chapter21,CopyrightJohnC.Hull20124
Bid-Offer Spread As a Function of Quantity (Figure 21.1, page 448) Risk Management and Financial Institutions 3e, Chapter 21, Copyright © John C. Hull 2012 Offer Price Bid Price Quantity 4
Bid-Offer Spread (page 450)Dollar bid -offer spread, p= Offer price -Bid priceOffer price -Bid priceProportional Bid -offer spread, s =Mid - market priceCost of liquidatio n in normal markets2wheren isthenumber of positions, α,is thepositionin the ith instrument , and s, is the proportion albid -offer spread fortheith instrument5RiskManagementandFinancialInstitutions3e,Chapter21,CopyrightJohnC.Hull2012
Bid-Offer Spread (page 450) Risk Management and Financial Institutions 3e, Chapter 21, Copyright © John C. Hull 2012 bid - offer spread for the th instrument . in the th instrument , and is the proportion al where is the number of positions, is the position 2 1 Cost of liquidatio n in normal markets Mid -market price Offer price Bid price Proportion al Bid - offer spread, Dollar bid - offer spread, Offer price Bid price 1 i i s n s α s p i i n i i i − = = − = 5