Nature inspired computational intelligence for financial contagion modelling

This thesis was submitted for the degree of Doctor of Philosophy and awarded by Brunel University.Financial contagion refers to a scenario in which small shocks, which initially affect only a few financial institutions or a particular region of the economy, spread to the rest of the financial sector and other countries whose economies were previously healthy. This resembles the “transmission” of a medical disease. Financial contagion happens both at domestic level and international level. At domestic level, usually the failure of a domestic bank or financial intermediary triggers transmission by defaulting on inter-bank liabilities, selling assets in a fire sale, and undermining confidence in similar banks. An example of this phenomenon is the failure of Lehman Brothers and the subsequent turmoil in the US financial markets. International financial contagion happens in both advanced economies and developing economies, and is the transmission of financial crises across financial markets. Within the current globalise financial system, with large volumes of cash flow and cross-regional operations of large banks and hedge funds, financial contagion usually happens simultaneously among both domestic institutions and across countries. There is no conclusive definition of financial contagion, most research papers study contagion by analyzing the change in the variance-covariance matrix during the period of market turmoil. King and Wadhwani (1990) first test the correlations between the US, UK and Japan, during the US stock market crash of 1987. Boyer (1997) finds significant increases in correlation during financial crises, and reinforces a definition of financial contagion as a correlation changing during the crash period. Forbes and Rigobon (2002) give a definition of financial contagion. In their work, the term interdependence is used as the alternative to contagion. They claim that for the period they study, there is no contagion but only interdependence. Interdependence leads to common price movements during periods both of stability and turmoil. In the past two decades, many studies (e.g. Kaminsky et at., 1998; Kaminsky 1999) have developed early warning systems focused on the origins of financial crises rather than on financial contagion. Further authors (e.g. Forbes and Rigobon, 2002; Caporale et al, 2005), on the other hand, have focused on studying contagion or interdependence. In this thesis, an overall mechanism is proposed that simulates characteristics of propagating crisis through contagion. Within that scope, a new co-evolutionary market model is developed, where some of the technical traders change their behaviour during crisis to transform into herd traders making their decisions based on market sentiment rather than underlying strategies or factors. The thesis focuses on the transformation of market interdependence into contagion and on the contagion effects. The author first build a multi-national platform to allow different type of players to trade implementing their own rules and considering information from the domestic and a foreign market. Traders’ strategies and the performance of the simulated domestic market are trained using historical prices on both markets, and optimizing artificial market’s parameters through immune - particle swarm optimization techniques (I-PSO). The author also introduces a mechanism contributing to the transformation of technical into herd traders. A generalized auto-regressive conditional heteroscedasticity - copula (GARCH-copula) is further applied to calculate the tail dependence between the affected market and the origin of the crisis, and that parameter is used in the fitness function for selecting the best solutions within the evolving population of possible model parameters, and therefore in the optimization criteria for contagion simulation. The overall model is also applied in predictive mode, where the author optimize in the pre-crisis period using data from the domestic market and the crisis-origin foreign market, and predict in the crisis period using data from the foreign market and predicting the affected domestic market

A review of population-based metaheuristics for large-scale black-box global optimization: Part B

This paper is the second part of a two-part survey series on large-scale global optimization. The first part covered two major algorithmic approaches to large-scale optimization, namely decomposition methods and hybridization methods such as memetic algorithms and local search. In this part we focus on sampling and variation operators, approximation and surrogate modeling, initialization methods, and parallelization. We also cover a range of problem areas in relation to large-scale global optimization, such as multi-objective optimization, constraint handling, overlapping components, the component imbalance issue, and benchmarks, and applications. The paper also includes a discussion on pitfalls and challenges of current research and identifies several potential areas of future research

An Evaluation of Performance Enhancements to Particle Swarm Optimisation on Real-World Data

Swarm Computation is a relatively new optimisation paradigm. The basic premise is to model the collective behaviour of self-organised natural phenomena such as swarms, flocks and shoals, in order to solve optimisation problems. Particle Swarm Optimisation (PSO) is a type of swarm computation inspired by bird flocks or swarms of bees by modelling their collective social influence as they search for optimal solutions. In many real-world applications of PSO, the algorithm is used as a data pre-processor for a neural network or similar post processing system, and is often extensively modified to suit the application. The thesis introduces techniques that allow unmodified PSO to be applied successfully to a range of problems, specifically three extensions to the basic PSO algorithm: solving optimisation problems by training a hyperspatial matrix, using a hierarchy of swarms to coordinate optimisation on several data sets simultaneously, and dynamic neighbourhood selection in swarms. Rather than working directly with candidate solutions to an optimisation problem, the PSO algorithm is adapted to train a matrix of weights, to produce a solution to the problem from the inputs. The search space is abstracted from the problem data. A single PSO swarm optimises a single data set and has difficulties where the data set comprises disjoint parts (such as time series data for different days). To address this problem, we introduce a hierarchy of swarms, where each child swarm optimises one section of the data set whose gbest particle is a member of the swarm above in the hierarchy. The parent swarm(s) coordinate their children and encourage more exploration of the solution space. We show that hierarchical swarms of this type perform better than single swarm PSO optimisers on the disjoint data sets used. PSO relies on interaction between particles within a neighbourhood to find good solutions. In many PSO variants, possible interactions are arbitrary and fixed on initialisation. Our third contribution is a dynamic neighbourhood selection: particles can modify their neighbourhood, based on the success of the candidate neighbour particle. As PSO is intended to reflect the social interaction of agents, this change significantly increases the ability of the swarm to find optimal solutions. Applied to real-world medical and cosmological data, this modification is and shows improvements over standard PSO approaches with fixed neighbourhoods

A review of population-based metaheuristics for large-scale black-box global optimization: Part A

Scalability of optimization algorithms is a major challenge in coping with the ever growing size of optimization problems in a wide range of application areas from high-dimensional machine learning to complex large-scale engineering problems. The field of large-scale global optimization is concerned with improving the scalability of global optimization algorithms, particularly population-based metaheuristics. Such metaheuristics have been successfully applied to continuous, discrete, or combinatorial problems ranging from several thousand dimensions to billions of decision variables. In this two-part survey, we review recent studies in the field of large-scale black-box global optimization to help researchers and practitioners gain a bird’s-eye view of the field, learn about its major trends, and the state-of-the-art algorithms. Part of the series covers two major algorithmic approaches to large-scale global optimization: problem decomposition and memetic algorithms. Part of the series covers a range of other algorithmic approaches to large-scale global optimization, describes a wide range of problem areas, and finally touches upon the pitfalls and challenges of current research and identifies several potential areas for future research

DG2: A Faster and More Accurate Differential Grouping for Large-Scale Black-Box Optimization

Identification of variable interaction is essential for an efficient implementation of a divide-and-conquer algorithm for large-scale black-box optimization. In this paper, we propose an improved variant of the differential grouping (DG) algorithm, which has a better efficiency and grouping accuracy. The proposed algorithm, DG2, finds a reliable threshold value by estimating the magnitude of roundoff errors. With respect to efficiency, DG2 reuses the sample points that are generated for detecting interactions and saves up to half of the computational resources on fully separable functions. We mathematically show that the new sampling technique achieves the lower bound with respect to the number of function evaluations. Unlike its predecessor, DG2 checks all possible pairs of variables for interactions and has the capacity to identify overlapping components of an objective function. On the accuracy aspect, DG2 outperforms the state-of-the-art decomposition methods on the latest large-scale continuous optimization benchmark suites. DG2 also performs reliably in the presence of imbalance among contribution of components in an objective function. Another major advantage of DG2 is the automatic calculation of its threshold parameter ($\epsilon$ ), which makes it parameter-free. Finally, the experimental results show that when DG2 is used within a cooperative co-evolutionary framework, it can generate competitive results as compared to several state-of-the-art algorithms

Particle swarm optimization for dynamically changing environments with particular focus on scalability and switching cost

Change is an inescapable aspect of natural and artificial systems, and adaptation is central to their resilience. Optimization problems are no exception to this maxim. Indeed, viability of businesses depends heavily on their effectiveness in responding to a change in the myriad of optimization problems they entail. Changes in optimization problems usually are result of change in the objective function and/or number of variables and/or constraints. Such optimization problems are denoted as dynamic optimization problems (DOPs) in the literature. Despite the large body of literature on DOPs and algorithms in this domain, there are still noticeable gaps between real-world DOPs and academic research. The first objective of this thesis is investigating DOPs to identify any class of DOPs or any DOPs' characteristics that are common in practical situation but have not been studied by the researchers. In this thesis, two important gaps are identified, namely considering switching cost in DOPs and large-scale DOPs. Both are common in many real-world dynamic problem but a few research investigated them in the past. In an attempt to bridge these gaps, this thesis makes the following contributions: First, this thesis considers the impact of cost for changing solutions after environmental changes. In fact, changing solutions in real-world problems is costly. Furthermore, larger changes have higher cost and need more resources such as time, human resources and energy. Thus, lack of switching cost consideration in most previous algorithms makes them unsuitable for many of real-world DOPs. In this thesis, different scenarios of DOPs with switching cost are investigated, their challenges are identified, and the performance of the state-of-the-art methods are investigated for solving them. Contributions include developing a novel robust optimization over time (ROOT) framework, a novel adaptive method for maximizing efficiency by changing or keeping solutions after environmental changes, and a novel multi-objective and time-linkage based method for minimizing switching cost. Second, this thesis investigates large-scale DOPs. Up to now, little attention has been given to the scalability of DOPs. Indeed, the dimension of typical DOPs studied in the literature hardly exceeds twenty. In this thesis, the challenges of large-scale DOPs are studied, then the efficiency of the current methods are investigated for solving them. Moreover, this thesis proposes a novel cooperative coevolution algorithm based on a multi-population approach which benefits from a new resource allocation method for DOPs with high-dimensional search space. All the proposed methods in this thesis use particle swarm optimization as the core optimizer embedded in a multi-population framework. The performance of the proposed methods are compared with state-of-the-art methods on a wide range of problem instances generated by the state-of-the-art and the proposed DOP benchmarks. The comparison results indicate the superiority of the proposed methods