Deutsche Bank Prize: winners

First prize

Title: Self-fulfilling Fire Sales: Fragility of Collateralised Short-term Debt Markets

Author: John C.F. Kuong

Award committee comments: One of the major lessons of the recent financial crisis is that the parallel banking sector can be a major incubator and transmitter of systemic risk. John Kuong’s paper shows how imperfections in the market for collateral can increase the fragility of wholesale markets where short-term, secured lending is the norm. This is an accomplished piece of theoretical research and is an interesting and useful addition to existing banking theory. Market imperfections are captured by the price impact of dealing in collateral assets. Adding this feature in the analysis gives rise to a model that is rich in policy implications. John emphasises two in the essay. The model suggests a role for 'a market maker of last resort' as had been suggested by a number of policy analysts. It also gives some support for the exemption of repo finance from automatic stay, a feature of bankruptcy regimes that has been criticised by other analysts. John’s analysis suggests that this exemption serves a useful purpose of increasing collateral values for short-term creditors. This has the effect of reducing the amount of leverage required to finance the project and of making the arrangement less fragile, that is, less susceptible to fire-sales. The committee also feels the paper sheds light on the importance of reforms aimed at removing imperfections in the market for collateral which remains highly segmented within Europe and across time-zones globally

Runner-up prize

Title: Credit Risk Spillovers, Systemic Importance and Vulnerability in Financial Networks

Author: Inna Grinis

Award committee comments: This paper makes an interesting and imaginative contribution to systemic risk by developing a model of contagion in credit markets. The heart of the model is to assume that solvency problems can be transmitted across agents (firms or countries) arrayed in a network, depending upon the severity of the solvency deficiency of an agent, the susceptibility of its counterparty to solvency problems, and the strength of the interaction between the pair. This idea is incorporated into a ratings-based framework. The resulting model is illustrated in an application to Euro zone sovereigns which is used to calculate indices of systemic importance and systemic vulnerability. 

No award was made in 2013.

First prize

Title: Portfolio Credit Risk of Default and Spread Widening 

Author: Hongbiao Zhao (Department of Statistics, LSE)

Award committee comments: The experience of the financial crisis has demonstrated the importance of developing reliable, tractable methods for studying the risks contained in portfolios of credit sensitive instruments. The pitfalls of over-reliance on a narrow class of credit portfolio models which were too quickly adopted as the industry norm by credit ratings agencies and other key institutions were exposed by the break-down of those models as the crisis unfolded in 2007 and 2008. Hongbiao Zhao has made an excellent contribution in setting out a rich framework for modelling portfolio credit risk that is at once flexible and quite practical to implement. It gives an innovative way to combine the two principal sources of information on credit sensitive instruments—market spreads on traded instruments and historical information on default. Mr. Zhao is to be commended for his fine contribution.

Runner-up prize

Title:Systemic Liquidity Requirements

Author: Toni Ahnert (Department of Economics/FMG, LSE)

Review panel comments: Written jointly with Dr. Benjamin Nelson (Bank of England).  This paper shows considerable skill in applying the theory of global games to make clear and very policy relevant conclusions for the development of a liquidity buffer that is sensitive to changing business conditions.  This is a very useful contribution to the development of our macro-prudential tool-box. 

Fist prize

Title: Credit Rating and Competition

Authors: Nelson Camanho, Pragyan Deb and Zijun Liu (all Department of Finance/FMG, LSE)

Award committee comments: Credit ratings agencies have been widely criticised for applying lax standards to structured products which played an important role in the recent financial crisis at least at its outset. Camanho, Deb and Liu tackle the important issue of the organisation of credit ratings agencies whose earnings are paid by the issuers they rate. They examine the trade-off between reputation and fees for such CRA's under alternative competitive environments. They find that in many circumstances a duopolist CRA is more likely to award an inflated rating than a monopolist CRA. This theoretical result represents a serious cause for reflection about the right path to take in regulating credit ratings agencies. Some have advocated reforms to bring a higher degree of competition to the industry. The Camanho-Deb and Liu paper raises a serious question about whether reform proposals in that direction will achieve the effects hope for by their advocates, if the "issuer-pay" business model of CRAs remains dominant.

No runner-up prize was awarded in 2011.