Optimal bank portfolio choice under fixed-rate deposit insurance

Optimal bank portfolio choice under fixed-rate deposit insurance

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Article ID: iaor19941006
Country: Switzerland
Volume: 45
Issue: 1/4
Start Page Number: 243
End Page Number: 264
Publication Date: Dec 1993
Journal: Annals of Operations Research
Authors:
Keywords: portfolio analysis
Abstract:

This paper analyzes the investment decisions of insured banks under fixed-rate deposit insurance. The model takes into account the charter value and allows banks to dynamically revise their asset portfolios. Trade-offs exist between preserving the charter and exploiting insurance. The optimal bank portfolio problem is solved analytically for a constant charter value. In any audit period, banks maximize their risk exposure before some critical time and act cautiously thereafter. The corresponding deposit insurance is shown to be a put option that matures at this critical time rather than at the audit date.

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