Liquidity, risk measures, and concentration of measure (1510.07033v2)

Abstract: Expanding on techniques of concentration of measure, we develop a quantitative framework for modeling liquidity risk using convex risk measures. The fundamental objects of study are curves of the form $(\rho(\lambda X))_{\lambda \ge 0}$, where $\rho$ is a convex risk measure and $X$ a random variable, and we call such a curve a \emph{liquidity risk profile}. The shape of a liquidity risk profile is intimately linked with the tail behavior of the underlying $X$ for some notable classes of risk measures, namely shortfall risk measures. We exploit this link to systematically bound liquidity risk profiles from above by other real functions $\gamma$, deriving tractable necessary and sufficient conditions for \emph{concentration inequalities} of the form $\rho(\lambda X) \le \gamma(\lambda)$, for all $\lambda \ge 0$. These concentration inequalities admit useful dual representations related to transport inequalities, and this leads to efficient uniform bounds for liquidity risk profiles for large classes of $X$. On the other hand, some modest new mathematical results emerge from this analysis, including a new characterization of some classical transport-entropy inequalities. Lastly, the analysis is deepened by means of a surprising connection between time consistency properties of law invariant risk measures and the tensorization of concentration inequalities.