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Sandhu RS, Georgiou TT, Tannenbaum AR. Ricci Curvature: An Economic Indicator for Market Fragility and Systemic Risk. Sci Adv 2016;2(5):e1501495.
Quantifying the systemic risk and fragility of financial systems is of vital importance in analyzing market efficiency, deciding on portfolio allocation, and containing financial contagions. At a high level, financial systems may be represented as weighted graphs that characterize the complex web of interacting agents and information flow (for example, debt, stock returns, and shareholder ownership). Such a representation often turns out to provide keen insights. We show that fragility is a system-level characteristic of "business-as-usual" market behavior and that financial crashes are invariably preceded by system-level changes in robustness. This was done by leveraging previous work, which suggests that Ricci curvature, a key geometric feature of a given network, is negatively correlated to increases in network fragility. To illustrate this insight, we examine daily returns from a set of stocks comprising the Standard and Poor’s 500 (S&P 500) over a 15-year span to highlight the fact that corresponding changes in Ricci curvature constitute a financial "crash hallmark." This work lays the foundation of understanding how to design (banking) systems and policy regulations in a manner that can combat financial instabilities exposed during the 2007-2008 crisis.Last updated on 02/24/2023