Digital illustration of a financial network with algorithms rescuing a bank.

Decoding Claims Trading: How Algorithms Can Rescue Banks in Distress

Elliot Brynn in Business & Economy August 2025 • 4 min read.

"Explore how innovative algorithms are being developed to navigate claims trading, offering potential solutions to mitigate systemic risk in financial networks and provide a market-driven approach to bank rescues."

The global financial system is an intricate web, where the failure of one institution can trigger a domino effect, threatening the stability of the entire structure. Recent events, such as the banking crisis of March 2023, have starkly reminded us of the ever-present dangers of systemic risk. In response, experts are exploring innovative solutions to bolster the financial system and prevent future crises. One promising area of research is claims trading, and the development of algorithms to facilitate this process.

Claims trading, a concept rooted in Chapter 11 of the U.S. Bankruptcy Code, involves the buying and selling of claims against a bankrupt entity. In the context of financial networks, this translates to banks trading their claims on other institutions, potentially injecting liquidity into struggling entities and mitigating contagion effects. While the idea is not new, formalizing and optimizing it through algorithms is a novel approach.

This article delves into the exciting world of algorithms for claims trading, simplifying complex research to reveal how these tools can rescue banks in distress and stabilize financial networks. We'll explore the core concepts, potential benefits, and computational challenges involved in this market-driven approach to systemic risk management.

Understanding Claims Trading: A New Rescue Package

Digital illustration of a financial network with algorithms rescuing a bank.

At its core, claims trading offers an alternative to traditional bank bailouts and acquisitions. Instead of a larger institution simply absorbing a distressed bank, claims trading allows for a more nuanced approach where specific assets are transferred. This can provide immediate liquidity to the struggling bank, improving its solvency and preventing further repercussions throughout the network.

The basic idea involves a bank (w) taking over some of the claims of a distressed bank (v). In return, bank w provides liquidity to v, which can help v to recover or mitigate broader negative consequences. This form of claims trading focuses on two main types of trades:

Trading Incoming Edges: This involves trading claims for which the distressed bank v is the creditor.
Trading Outgoing Edges: This focuses on claims for which the distressed bank v is the debtor.

It's important to note that for incoming edges, there is usually no trade in which both banks strictly improve their assets. For this reason, most trades are creditor-positive, in which bank v profits strictly and bank w remains indifferent. For outgoing edges, the goal is to maximize the increase in assets for the creditors of v, for which the characteristics of the payment functions of the banks are essential.

The Future of Financial Stability

Algorithms for claims trading represent a significant step forward in managing systemic risk and promoting financial stability. By formalizing and optimizing the claims trading process, these algorithms can offer a more efficient and market-driven approach to rescuing distressed banks and preventing contagion effects. As research continues and these algorithms are further refined, they hold the potential to play a crucial role in safeguarding the global financial system.

About this Article -

This article was crafted using a human-AI hybrid and collaborative approach. AI assisted our team with initial drafting, research insights, identifying key questions, and image generation. Our human editors guided topic selection, defined the angle, structured the content, ensured factual accuracy and relevance, refined the tone, and conducted thorough editing to deliver helpful, high-quality information.See our About page for more information.

This article is based on research published under:

DOI-LINK: https://doi.org/10.48550/arXiv.2402.13627,

Title: Algorithms For Claims Trading

Subject: cs.gt q-fin.rm

Authors: Martin Hoefer, Carmine Ventre, Lisa Wilhelmi

Published: 21-02-2024

Everything You Need To Know

What exactly is claims trading, and how does it relate to rescuing distressed banks?

Claims trading involves the buying and selling of claims against a bankrupt entity. Within financial networks, this means banks trade claims on other institutions. For a distressed bank, this can mean injecting liquidity and mitigating potential contagion effects. Algorithms are used to formalize and optimize the claims trading process, which helps stabilize financial networks. This is an alternative to traditional bank bailouts or acquisitions where a larger institution absorbs a distressed bank. It allows for a more nuanced approach where specific assets are transferred, providing immediate liquidity to the struggling bank, improving its solvency and preventing further repercussions throughout the network.

What are the two main types of trades involved in claims trading, and how do they differ in their objectives?

The two main types of trades in claims trading are 'Trading Incoming Edges' and 'Trading Outgoing Edges.' 'Trading Incoming Edges' involves trading claims for which the distressed bank (v) is the creditor. In most of these trades, the distressed bank (v) profits strictly, while the other bank (w) remains indifferent. 'Trading Outgoing Edges' focuses on claims for which the distressed bank (v) is the debtor. The goal here is to maximize the increase in assets for the creditors of (v), which depends on the characteristics of the payment functions of the banks. Understanding these payment functions is essential for maximizing the benefit to the creditors.

In the context of financial stability, what role do algorithms play in claims trading, and what potential benefits do they offer?

Algorithms formalize and optimize the claims trading process, offering a more efficient and market-driven approach to rescuing distressed banks and preventing contagion effects. They help manage systemic risk and promote financial stability. By optimizing the transfer of assets, these algorithms can provide immediate liquidity to struggling banks, improving their solvency and preventing further negative consequences throughout the network. This ultimately safeguards the global financial system.

How does 'systemic risk' relate to financial networks, and why is it important to manage this risk effectively?

Systemic risk refers to the risk that the failure of one institution within a financial network can trigger a domino effect, threatening the stability of the entire system. Recent events, such as the banking crisis of March 2023, highlight the dangers of systemic risk. Managing this risk is crucial to prevent widespread financial crises. Algorithms for claims trading offer a market-driven approach to mitigate systemic risk by enabling banks to trade claims on other institutions, potentially injecting liquidity into struggling entities and preventing contagion.

What are the broader implications of using algorithms for claims trading, especially considering the limitations and computational challenges involved?

Using algorithms for claims trading represents a significant shift towards a more proactive and market-driven approach to financial stability. While it offers benefits such as efficiency and targeted liquidity injections, there are limitations and computational challenges. Most trades involving incoming edges are creditor-positive, meaning only the distressed bank profits. Further research and refinement of these algorithms are needed to fully realize their potential and address these challenges. Overcoming these challenges could lead to a more resilient and stable global financial system, less reliant on traditional bailout mechanisms.