Calibrating asset correlation for Indian corporate exposures: Implications for regulatory capital
AbstractPurpose – This paper is a first attempt to empirically calibrate the default and asset correlation for large companies in India and elaborate its implications for credit risk capital estimation for a bank. Design/methodology/approach – The authors estimate default probabilities and default correlations of long-term bonds of 542 Indian corporates using rating transitions and pair-wise migrations over ten year cohorts of firms. Further, the implicit asset correlation from the estimated default correlations and default thresholds are derived using the asymptotic single risk factor approach. Findings – The authors find evidence that default correlations are time variant and vary across rating grades and industries. The highest correlations are observed between companies within the same rating grades (systematic risk impact) and within the same industry (industry specific impact). More interestingly, significantly smooth monotonic relationship between the probability of default (PD) and asset correlation as prescribed by the Basel II IRB document (2006) are not found. Moreover, it is found that the asset correlation range for Indian corporates do not match with what is prescribed for corporate exposures by BCBS. Originality/value – The authors address the dilemma implied by the negative relationship between PD and asset correlation as suggested by BCBS IRB formula and other research for developed economies with estimates of asset correlation for and emerging market like India and demonstrate its implications on the estimation of credit risk capital.
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Bibliographic InfoArticle provided by Emerald Group Publishing in its journal Journal of Risk Finance.
Volume (Year): 8 (2007)
Issue (Month): 4 (August)
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- Bandyopadhyay, Arindam & Ganguly, Sonali, 2011.
"Empirical estimation of default and asset correlation of large corporates and banks in India,"
33057, University Library of Munich, Germany.
- Arindam Bandyopadhyay & Sonali Ganguly, 2013. "Empirical estimation of default and asset correlation of large corporates and banks in India," Journal of Risk Finance, Emerald Group Publishing, vol. 14(1), pages 87-99, January.
- Socol Adela & Iuga Iulia, 2010. "Study Of Correlation Between Average Interest Rate And Non-Performing Loans In The Romanian Banking System During 2006- February 2010," Annals of Faculty of Economics, University of Oradea, Faculty of Economics, vol. 1(2), pages 777-782, December.
- Bandyopadhyay, Arindam, 2011. "Internal Assessment of Credit Concentration Risk Capital: A Portfolio Analysis of Indian Public Sector Bank," MPRA Paper 28672, University Library of Munich, Germany.
- Adela Socol & Adina Danuletiu & Mihaela Aldea, 2009. "An Empirical Study Of Correlation Between Net Assets And Own Funds In The Romanian Banking System During 2001-2008," Annales Universitatis Apulensis Series Oeconomica, Faculty of Sciences, "1 Decembrie 1918" University, Alba Iulia, vol. 1(11), pages 48.
- Bandyopadhyay, Arindam, 2010. "Understanding the Effect of Concentration Risk in the Banks’ Credit Portfolio: Indian Cases," MPRA Paper 24822, University Library of Munich, Germany.
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