  Financial markets are exposed to systemic risk, the risk that a substantial
fraction of the system ceases to function and collapses. Systemic risk can
propagate through different mechanisms and channels of contagion. One important
form of financial contagion arises from indirect interconnections between
financial institutions mediated by financial markets. This indirect
interconnection occurs when financial institutions invest in common assets and
is referred to as overlapping portfolios. In this work we quantify systemic
risk from indirect interconnections between financial institutions. Having
complete information of security holdings of major Mexican financial
intermediaries and the ability to uniquely identify securities in their
portfolios, allows us to represent the Mexican financial system as a bipartite
network of securities and financial institutions. This makes it possible to
quantify systemic risk arising from overlapping portfolios. We show that
focusing only on direct exposures underestimates total systemic risk levels by
up to 50%. By representing the financial system as a multi-layer network of
direct exposures (default contagion) and indirect exposures (overlapping
portfolios) we estimate the mutual influence of different channels of
contagion. The method presented here is the first objective data-driven
quantification of systemic risk on national scales that includes overlapping
portfolios.

Risk Management