The Correlation Problem in Operational Risk

OperationalRisk — Risk's Newsletter, 2004

13 Pages Posted: 26 Nov 2007

See all articles by Antoine Frachot

Antoine Frachot

National Institute of Statistics and Economic Studies (INSEE) - Center for Research in Economics and Statistics (CREST)

Thierry Roncalli

Amundi Asset Management; University of Evry

Eric Salomon

affiliation not provided to SSRN

Abstract

This paper demonstrates that aggregate losses are necessarily low as long as we remain under the standard assumptions of LDA models. Moreover empirical findings show that the correlation between two aggregate losses is typically below 5%, which opens a wide scope for large diversification effects, much larger than those the Basel Committee seems to have in mind. In other words, summing up capital charges is in substantial contradiction with the type of correlation consistent with the standard LDA model.

Keywords: Operational risk, LDA model, severity correlation, frequency correlation, aggregate loss correlation

JEL Classification: G00

Suggested Citation

Frachot, Antoine and Roncalli, Thierry and Salomon, Eric, The Correlation Problem in Operational Risk. OperationalRisk — Risk's Newsletter, 2004. Available at SSRN: https://ssrn.com/abstract=1032594

Antoine Frachot

National Institute of Statistics and Economic Studies (INSEE) - Center for Research in Economics and Statistics (CREST) ( email )

15 Boulevard Gabriel Peri
15 Boulevard Gabriel Peri
Malakoff Cedex, 1 92245
France

Thierry Roncalli (Contact Author)

Amundi Asset Management ( email )

90 Boulevard Pasteur
Paris, 75015
France

University of Evry ( email )

Boulevard Francois Mitterrand
F-91025 Evry Cedex
France

Eric Salomon

affiliation not provided to SSRN

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