The Herd Behavior Index: A New Measure for Systemic Risk in Financial Markets

32 Pages Posted: 1 Dec 2011 Last revised: 18 Jan 2015

See all articles by Jan Dhaene

Jan Dhaene

Katholieke Universiteit Leuven

Daniël Linders

University of Illinois

Wim Schoutens

KU Leuven - Department of Mathematics

David Vyncke

Ghent University - Department of Applied Mathematics and Computer Science

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Date Written: September 12, 2011

Abstract

We introduce a new and easy to calculate measure for systemic risk in financial markets. This measure is baptized the Herd Behavior Index (HIX). It is model independent and forward looking, based on observed option data.

In order to determine the degree of systemic risk or herd behavior in a financial market one should compare the observed market situation with the extreme (theoretical) situation under which the whole system is driven by a single factor.

The Herd Behavior Index (HIX) is defined as the ratio of an option-based estimate of the risk-neutral variance of the market index and an option-based estimate of the corresponding variance of this extreme market situation. Using the theory of comonotonicity, the extreme situation can easily be backed out of the observed option quotes.

The HIX can be determined for any market index provided an appropriate series of vanilla options is traded on this index as well as on its components. As an illustration, we determine historical values of the 30-days implied Herd Behavior Index for the Dow Jones Industrial Average, covering the period January 2003 to October 2009.

Keywords: Comonotonicity, systemic risk, correlation, VIX volatility index

Suggested Citation

Dhaene, Jan and Linders, Daniël and Schoutens, Wim and Vyncke, David, The Herd Behavior Index: A New Measure for Systemic Risk in Financial Markets (September 12, 2011). Available at SSRN: https://ssrn.com/abstract=1966997 or http://dx.doi.org/10.2139/ssrn.1966997

Jan Dhaene (Contact Author)

Katholieke Universiteit Leuven ( email )

Naamsestraat 69
Leuven, 3000
Belgium

Daniël Linders

University of Illinois ( email )

306 Altgeld Hall,
1409 West Green Street
Champaign, IL 61822
United States

Wim Schoutens

KU Leuven - Department of Mathematics ( email )

Celestijnenlaan 200 B
Leuven, B-3001
Belgium

David Vyncke

Ghent University - Department of Applied Mathematics and Computer Science ( email )

Gent, 9000
Belgium

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