The Application Of Risk Budgeting In Capital Adequacy Management Of Securities Firms

The issue about the capital adequacy of the financial organizations of China is a hot spot of current theoretical and empirical studies. However, as a type of financial organizations, the securities companies are still in the initial stage concerning the studies in this field. They lag far behind the banking industry. With the full implementation of capital adequacy based governance over the securities companies in China, this study takes the perspective of the securities company to research the establishment of risk management method to continuous satisfy the governance requirements on capital adequacy by utilizing the advanced risk management concepts and technologies. The study shows highly important practical and theoretical significance.Risk budgeting is a new concept that has been developed recently. In its broad sense, risk budgeting refers to a method in which the asset allocation is performed under the conditions of risk constraint to maximize the marginal return of the risk. In its narrow sense, risk budgeting is a process of measuring and decomposition risks. The risk measurement values are used to allocate assets and select investment managers. They are also used to monitor whether the risks of the assets and portfolio managers are kept within the budgets.This study proposes the general risk management framework based on capital adequacy by relying on the risk budgeting method. It applies the factor model and principal component analysis (PCA) method to conduct an empirical analysis of stock portfolio and bond portfolio. The main research contributions include the following.In the perspective of the securities company, the study relies on the risk budgeting method to propose the overall framework that consists of overall risk confirmation, risk allocation, risk monitoring and performance assessment based on risk adjustment, ensuring the continuous satisfaction of the governance requirements on the capital adequacy of the securities companies.Establish the strategic asset allocation model under the risk constraint conditions. In the model, the overall risk budget of the securities companies is considered. In addition, the risk budget requirements of different types of assets are also addressed. By dividing the investment managers of different types of investments into different groups, the structural investment manager selecting model is improved. The optimum risk allocation of different types of assets and different investment managers is achieved.This study proposes the risk decomposition model based on factor. As a result, the calculation amount is reduced. In addition, the market factor information can be gained in the public market, reducing the collection and storage of relevant information of different financial tools by the securities companies. This study also proposes the bond risk decomposition model based on principal component analysis (PCA). The calculation is further simplified due to the irrelevance between the principal components.