Systemic Greeks: Measuring risk in financial networks

Since the latest financial crisis, the idea of systemic risk has received considerable interest. In particular, contagion effects arising from cross-holdings between interconnected financial firms have been studied extensively. Drawing inspiration from the field of complex networks, these attempts are largely unaware of models and theories for credit risk of individual firms. Here, we note that recent network valuation models extend the seminal structural risk model of Merton (1974). Furthermore, we formally compute sensitivities to various risk factors – commonly known as Greeks – in a network context. In particular, we propose the network ∆ as a quantitative measure of contagion and illustrate our findings on some numerical examples. Finally, we show how insurance against systemic risk could be priced within our framework.