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Leverage Causes Fat Tails and Clustered Volatility

Abstract:

We build a simple model of leveraged asset purchases with margin calls. Investment funds use what is perhaps the most basic financial strategy, called "value investing", i.e. systematically attempting to buy underpriced assets. When funds do not borrow, the price fluctuations of the asset are normally distributed and uncorrelated across time. All this changes when the funds are allowed to leverage, i.e. borrow from a bank, to purchase more assets than their wealth would otherwise permit. Duri...

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Publication status:
Published

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Institution:
University of Oxford
Department:
Oxford, MPLS, Mathematical Inst
Role:
Author
Pages:
695-707
Publication date:
2009-08-11
DOI:
URN:
uuid:4b17a9db-6250-4abb-ae51-68952c5993ef
Source identifiers:
387630
Local pid:
pubs:387630

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