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Assessing the risk-return trade-off in loans portfolios

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  • Javier Mencía

    ()
    (Banco de España)

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    Abstract

    This paper analyses the risk and return of loans portfolios in a joint setting. I develop a model to obtain the distribution of loans returns. I use this model to describe the investment opportunity set of lenders using mean-variance analysis with a Value at Risk constraint. I also obtain closed form expressions for the interest rates that banks should set in compensation for borrowers' credit risk under absence of arbitrage opportunities and I use these rates as a benchmark to interpret actual loans' prices. Finally, I study the risk-return trade-off in an empirical application to the Spanish banking system.

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    File URL: http://www.bde.es/f/webbde/SES/Secciones/Publicaciones/PublicacionesSeriadas/DocumentosTrabajo/09/Fic/dt0911e.pdf
    File Function: First version, June 2009
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    Bibliographic Info

    Paper provided by Banco de Espa�a in its series Banco de Espa�a Working Papers with number 0911.

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    Length: 41 pages
    Date of creation: Jun 2009
    Date of revision:
    Handle: RePEc:bde:wpaper:0911

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    Related research

    Keywords: Credit risk; Probability of default; Asset Pricing; Mean-Variance allocation; Stochastic Discount Factor; Value at Risk;

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