First Annual Risk Conference 2023
What it is about
Víctor Reyes explained at the First Annual Risk Conference (September 22, 2023) how the market risk of fixed-income instruments in the Dominican Republic is characterized and measured, with challenges and anecdotes from measuring it locally.
The 33 slides define fixed-income market risk (exogenous and endogenous factors), characterize it with duration and convexity, explain how to build the yield curve with the Nelson and Siegel model and compare Central Bank and Ministry of Finance instruments. They close with building a robust model (VaR, stress tests) and the most common mistakes.
Objectives
- Characterize the market risk of Dominican fixed-income instruments and its most relevant factors.
- Show how market risk factors have evolved in the country and what patterns they display.
- Provide guidance on how to build a robust measurement model and which mistakes to avoid.
Key takeaways
- A bond's market risk is explained by the change in its yield and is approximated with modified duration and convexity.
- Three components (level, slope and curvature) explain more than 99% of the variance observed in yield curves.
- There is high correlation and similar volatility patterns between Ministry of Finance and Central Bank instruments, and rate cycles show mean reversion.
- Prices should not be used to estimate risk measures such as VaR, and durations of instruments in different currencies are not mixed.
- Portfolios are dynamic and market risk goes hand in hand with liquidity risk; VaR, stress tests, durations and convexities are interrelated parts of one framework.
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