Stochastic Volatilities and Correlations, Extreme Values and Modeling the Macroeconomic Environment, Under Which Brazilian Banks Operate
AbstractUsing monthly data for a set of variables, we examine the out-of-sample performance of various variance/covariance models and find that no model has consistently outperformed the others. We also show that it is possible to increase the probability mass toward the tails and to match reasonably well the historical evolution of volatilities by changing a decay factor appropriately. Finally, we implement a simple stochastic volatility model and simulate the credit transition matrix for two large Brazilian banks and show that this methodology has the potential to improve simulated transition probabilities as compared to the constant volatility case. In particular, it can shift CTM probabilities towards lower credit risk categories.
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Bibliographic InfoPaper provided by International Monetary Fund in its series IMF Working Papers with number 07/290.
Date of creation: 01 Dec 2007
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This paper has been announced in the following NEP Reports:
- NEP-ALL-2008-01-26 (All new papers)
- NEP-BAN-2008-01-26 (Banking)
- NEP-ECM-2008-01-26 (Econometrics)
- NEP-RMG-2008-01-26 (Risk Management)
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