Journal of Operational Risk

Risk.net

Modeling operational risk depending on covariates: an empirical investigation

Paul Embrechts, Kamil Mizgier and Xian Chen

  • A realistic dynamic EVT model is applied to operational risk data from various industry sectors.
  • Firm-specific covariates associated with Internal Control Weaknesses (ICW) are included.
  • It is shown that firms with higher incidences of selected ICWs have higher time-varying severities.

The importance of operational risk management in financial and commodity markets has increased significantly over the last few decades. This paper demonstrates the application of a nonhomogeneous Poisson model and dynamic extreme value theory (EVT) incorporating covariates on estimating frequency, severity and risk measures for operational risk. Compared with a classical EVT approach, the dynamic EVT gives a better performance with respect to the statistical fit and realism. It is also flexible enough to handle different types of empirical data. In our model, we include firm-specific covariates associated with internal control weaknesses (ICWs) and show empirically that firms with higher incidences of selected ICWs have higher time-varying severities for operational risk. Our methodology provides risk managers and regulators with a tool that uncovers the nonobvious patterns hidden in operational risk data.

To continue reading...

You need to sign in to use this feature. If you don’t have a Risk.net account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an indvidual account here: