A Repo Model of Fire Sales with VWAP and LOB Pricing Mechanisms

30 Pages Posted: 17 Nov 2020

See all articles by Maxim Bichuch

Maxim Bichuch

University at Buffalo, SUNY

Zachary Feinstein

Stevens Institute of Technology - School of Business

Date Written: May 12, 2020

Abstract

We consider a network of banks that optimally choose a strategy of asset liquidations and borrowing in order to cover short term obligations. The borrowing is done in the form of collateralized repurchase agreements, the haircut level of which depends on the total liquidations of all the banks. Similarly the fire-sale price of the asset obtained by each of the banks depends on the amount of assets liquidated by the bank itself and by other banks. By nature of this setup, banks’ behavior is considered as a Nash equilibrium. This paper provides two forms for market clearing to occur: through a common closing price and through an application of the limit order book. The main results of this work are providing sufficient conditions for existence and uniqueness of the clearing solutions (i.e., liquidations, borrowing, fire sale prices, and haircut levels).

Keywords: Finance, Systemic Risk, Price-Mediated Contagion, Repurchase Agreements

JEL Classification: G32

Suggested Citation

Bichuch, Maxim and Feinstein, Zachary, A Repo Model of Fire Sales with VWAP and LOB Pricing Mechanisms (May 12, 2020). Available at SSRN: https://ssrn.com/abstract=3701847 or http://dx.doi.org/10.2139/ssrn.3701847

Maxim Bichuch (Contact Author)

University at Buffalo, SUNY ( email )

12 Capen Hall
Buffalo, NY 14260
United States

Zachary Feinstein

Stevens Institute of Technology - School of Business ( email )

Hoboken, NJ 07030
United States

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