Practice-relevant model validation : distributional parameter risk analysis in financial model risk management
Cummins, Mark and Gogolin, Fabian and Kearney, Fearghal and Kiely, Greg and Murphy, Bernard (2022) Practice-relevant model validation : distributional parameter risk analysis in financial model risk management. Annals of Operations Research. ISSN 0254-5330 (https://doi.org/10.1007/s10479-022-04574-x)
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Abstract
An objective of model validation within organisations is to provide guidance on model selection decisions that balance the operational effectiveness and structural complexity of competing models. We consider a practice-relevant model validation scenario where a financial quantitative analysis team seeks to decide between incumbent and alternative models on the basis of parameter risk. We devise a model risk management methodology that gives a meaningful distributional assessment of parameter risk in a setting where market calibration and historical estimation procedures must be jointly applied. Such a scenario is typically driven by data constraints that preclude market calibration only. We demonstrate our proposed methodology in a natural gas storage modelling context, where model usage is necessary to support profit and loss reporting, and to inform trading and hedging strategy. We leverage our distributional parameter risk approach to devise an accessible technique to support model selection decisions.
ORCID iDs
Cummins, Mark ORCID: https://orcid.org/0000-0002-3539-8843, Gogolin, Fabian, Kearney, Fearghal, Kiely, Greg and Murphy, Bernard;-
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Item type: Article ID code: 82274 Dates: DateEvent4 March 2022Published4 March 2022Published Online18 January 2022AcceptedSubjects: Social Sciences > Industries. Land use. Labor > Risk Management Department: Strathclyde Business School > Accounting and Finance Depositing user: Pure Administrator Date deposited: 08 Sep 2022 11:51 Last modified: 11 Nov 2024 13:37 URI: https://strathprints.strath.ac.uk/id/eprint/82274