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Handbook of Asset and Liability Management: From models to optimal return strategies by Alexandre Adam

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10

Behavioural Modelling Principles

À donner donner, à vendre vendre. (13th century)

Behavioural models propose a modelling of customers' financial behaviour: for example their likelihood to break up contracts or to renegotiate them.

Linked to customer behavioural modelling, the A/L manager has to model its own company behaviour. It means for example: strategy models, margin modelling, etc.

In many cases, there are public models (such as for credit risk) that establish a common framework for A/L managers.

However, sometimes, when there is no public model (or when the public model is source of criticism), the ALM modelling team has to choose a private model. There are three possible model choices:

  • Structural models: those models focus on utility maximization in a microeconomic framework. Utility maximization provides, for example, the arbitrage function of the customer. Those models are used in very simple microeconomic frameworks.
  • Statistical models: the behavioural databases will help in the construction of those models (the favourite ones for A/L managers).
  • Mixed or “rational” models: those models combine the first two approaches supposing that the bahaviour corresponds to an optimal option exercise; the strike of this option depends on customer behaviour. Of course, the A/L manager needs for his simulations some information about the strike distribution function. Traders will use this kind of model for MBS pricing.

In the chapters below, we will explain the most important ...

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