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Liquidity, leverage, and Lehman: A structural analysis of financial institutions in crisis

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  • Chen, Ren-Raw
  • Chidambaran, N.K.
  • Imerman, Michael B.
  • Sopranzetti, Ben J.

Abstract

This paper presents a flexible, lattice-based structural credit risk model that uses equity market information and a detailed depiction of a financial institution’s liability structure to analyze default risk. The model is applied to examine the term structure of default probabilities for Lehman Brothers prior to its demise. The results indicate, as early as March, that the firm would likely lose access to external capital within two years. The model can be used as both a diagnostic tool for the early detection of financial distress and a prescriptive tool for addressing the sources of risk in large, complex financial institutions.

Suggested Citation

  • Chen, Ren-Raw & Chidambaran, N.K. & Imerman, Michael B. & Sopranzetti, Ben J., 2014. "Liquidity, leverage, and Lehman: A structural analysis of financial institutions in crisis," Journal of Banking & Finance, Elsevier, vol. 45(C), pages 117-139.
    • Handle: RePEc:eee:jbfina:v:45:y:2014:i:c:p:117-139
    DOI: 10.1016/j.jbankfin.2014.04.018
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    More about this item

    Keywords

    Structural credit risk models; Financial crisis; Risk management; Lehman Brothers; Default probability; Liquidity;
    All these keywords.

    JEL classification:

    • G - Financial Economics
    • G01 - Financial Economics - - General - - - Financial Crises
    • G02 - Financial Economics - - General - - - Behavioral Finance: Underlying Principles
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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