ABSTRACT
In this chapter, we present certain practical applications for the forecasting of optimum and coherent economic capital using the liquidity-adjusted value at risk (L-VaR) modeling technique and optimization algorithms. The asset allocation of economic capital is obtained by minimizing the objective function of L-VaR, and the optimization process is devised in a way that satisfies the objective function constraints of expected returns, trading volumes, and liquidation horizons set by the portfolio manager. In addition, this chapter illustrates how the proposed robust L-VaR algorithms can be used by an equity-trading unit in a dynamic asset allocation framework for reporting risk exposure, optimizing economic capital, and assessing risk reduction alternatives. The empirical results, of emerging Gulf Cooperation Council (GCC) financial markets, strongly confirm the importance of enforcing financially and operationally meaningful nonlinear and dynamic constraints, when they are available, on the L-VaR optimization procedure. The applied modeling algorithms and empirical results are interesting in terms of theory as well as practical applications and can have many uses and applications in financial markets, particularly in light of the 2007–2009 global financial crisis. In addition, the implemented optimization techniques and risk assessment algorithms can aid in advancing risk management practices in emerging and developed markets, particularly in the wake of the 2007–2009 financial turmoil. Similarly, it can aid in the progress of regulatory technology (RegTech) for the global financial services industry and can be of interest to professionals, regulators, and researchers working in the field of financial engineering, FinTech, machine learning for the policymaking process, and machine learning techniques for Internet of things data analytics; and for those who want to advance their understanding of the impact of innovative risk computational techniques and reporting processes on regulatory challenges for the financial services industry and its effects on global financial stability. Furthermore, it provides key real-world implications for portfolio/risk managers, treasury directors, risk management executives, policymakers, and financial regulators to comply with the requirements of Basel III best practices on liquidly risk and capital adequacy.
