Dynamic Conditional Beta and Systemic Risk in Europe

Eric Jondeau (HEC Lausanne)
Monday, December 10, 2012 - 2:00pm
ESMT Schloßplatz 1

Systemic risk can be defined as the propensity of a financial institution to be under-capitalized when the financial system as a whole is under-capitalized. It relates to the market capitalization of the firm, its financial leverage, and the sensitivity of its equity return to market shocks. In this paper, we investigate the situation of European financial institutions. We describe an econometric approach designed to measure systemic risk for non-U.S. institutions. We extend the approach developed by Brownlees and Engle (2010) to the case with several factors explaining the dynamic of financial firms' return and with asynchronicity of the time zones. We apply this methodology to the 196 largest European financial firms and estimate their systemic risk over the 2000-2012 period. We find that banks and insurance companies bear about 80% and 20% of the systemic risk in Europe. Over the recent period, the systemically riskiest countries are the U.K. and France, and the riskiest firms are Deutsche Bank and Barclays.