Presentation at Liverpool University, Research Cluster “Probability Theory, Financial and Actuarial Mathematics"

1. Liverpool University
Research Cluster “Probability
Theory, Financial and Actuarial
Mathematics
8 February 2012
Financial Network Analytics
Kimmo Soramäki | www.fna.fi
kimmo@soramaki.net

2. “When the crisis came, the serious limitations of existing economic
and financial models immediately became apparent.
[...]
As a policy-maker during the crisis, I found the available models of
limited help. In fact, I would go further: in the face of the crisis, we
felt abandoned by conventional tools.”
in a Speech by Jean-Claude Trichet, President of the
European Central Bank, Frankfurt, 18 November 2010

3. Network theory and related fields
Financial
Network
Analysis
Social Network Network
Analysis Science
NETWORK
THEORY
Graph & Matrix Computer
Theory Science
Biological
Network
Analysis

4. www.fna.fi/library

5. Why networks?

6. Katsushika Hokusai. The great wave off
Kanagawa ~1830

7. Data tsunami
• Digital information is doubling every 1.2 years -> Big Data, Open
Data, Data Science, ‘Chief Algorithms Officers’…
• Regulatory response to recent financial crisis was to strengthen
macro-prudential supervision with mandates for more regulatory
data
• The challenge will be to
understand and analyze the data
• Analytics based decision-making,
i.e. the application of computer
technology, operational research,
and statistics to support decision
making
Katsushika Hokusai. The great wave off
Kanagawa ~1830

8. Eratosthenes' map of the known world
c. 194 BC

9. Network maps
• Natural way to visualize the financial system
• Network visualizations are intuitive
• Maps aid decision making
• Mapping of the financial system
has only begun
Eratosthenes' map of the known
world, c. 194 BC.

10. Go is a board game that originated in
China more than 2,000 years ago.

11. Intelligence Amplification
• Technology, products and
practices change constantly
• Data is not clean, actions are not
‘rational’
• Algorithms don’t fare well in
periods of abrupt change
• Algorithms do not think outside
the box
• A solution is to augment human
intelligence
• Intelligence Amplification vs
Artificial Intelligence

12. What is a/the financial network?

13. Main premise of network analysis:
Structure of links between nodes matters
• The properties and behavior of a node cannot be analyzed on the
basis its own properties and behavior alone.
• To understand the behavior of one node, one must analyze the
behavior of nodes that may be several links apart in the network.
• Bottom up approach. Generalize and describe.
• Financial contexts
– Trading networks, payment networks
– Networks of interconnected balance sheets
– Networks of asset dependencies

14. Central theme: Centrality
• Degree: number of links
• Closeness: distance to other
nodes via shortest paths
• Betweenness: number of shortest
paths going through the node
• Eigenvector: nodes that are linked by/to
other important nodes are more central

15. Centrality depends on
network process
Trajectory geodesic paths, paths, trails or walks
Transmission parallel/serial duplication or transfer
Source: Borgatti (2004)
15

16. Topology of interactions
Degree distribution
Total of ~8000 banks
66 banks comprise 75% of value Soramäki, Bech, Beyeler, Glass and Arnold
25 banks completely connected (2006), Physica A, Vol. 379, pp 317-333.

17. The New York Times, 1 May 2010
Europe's Web of Debt

18. BBC, 18 November 2011
Eurozone debt web: Who owes what to whom?
(
)
http://www.bbc.co.uk/news/business-15748696

19. Country exposures networks
• Claims of banking sector by
country

20. Stock correlation networks
• Cross-asset correlation tree of
German DAX index stocks
• Assets are linked in a backbone
correlation network
• Clusters of asset classes clearly
visible
• Data reduction method

21. Cross asset network

22. Financial Network Analytics

23. Financial Network Analytics (FNA)
FNA is an analytics platform that helps banks and financial
regulators manage and understand financial data with network
analysis
• Web Service (www.fna.fi) and Enterprise Software
• Modular design, current modules for:
– Financial Stability
– Payment System Oversight
– Macroprudential Supervision and
– Cross Asset Analysis
• Designed for operationalizing latest research

24. Financial Network Analytics Platform
Develop Monitor

25. Demos
• Bilateral banking sector exposures by country (2005-
2011)
– Node = country, Link = banking system exposure
– Force-Directed layout of network
• Asset correlation data for DAX stocks (January 2012)
– Node = stock, Link = coupling via correlations
– Dynamic Force-Directed layout of spanning tree
• Dashboards

26. www.fna.fi
26
for more information