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Systematic credit cycle risk of financial collaterals: Modelling and evidence

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  • Gürtler, Marc
  • Heithecker, Dirk
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    Abstract

    According to the new capital adequacy framework (Basel II) finally adopted by the Basel Committee in June 2004 the eligibility of collaterals, especially financial collaterals, is extended in comparison to the existing rules. However, financial assets are valued conservatively in the credit context which suggests a strong correlation between collaterals and credit default rates. This paper discusses the impact of the dependency of financial collaterals and default rates on credit risk. Therefore, a general calculation framework for the loss rate of collateralized loans is given and an analytical solution for the valuation of financial collaterals is presented. Finally, the model is applied on empirical data of German insolvencies and German capital markets. --

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    Bibliographic Info

    Paper provided by Technische Universität Braunschweig, Institute of Finance in its series Working Papers with number FW15V2.

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    Date of creation: 2005
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    Handle: RePEc:zbw:tbsifw:fw15v2

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    Related research

    Keywords: Basel II; Capital Adequacy Requirements; Value at Risk; Loss Given Default; Probability of Default; Collateral; Collateral Valuation;

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    1. Merton, Robert C., 1973. "On the pricing of corporate debt: the risk structure of interest rates," Working papers 684-73., Massachusetts Institute of Technology (MIT), Sloan School of Management.
    2. Connolly, Robert & Stivers, Chris & Sun, Licheng, 2005. "Stock Market Uncertainty and the Stock-Bond Return Relation," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 40(01), pages 161-194, March.
    3. Edward I. Altman & Brooks Brady & Andrea Resti & Andrea Sironi, 2005. "The Link between Default and Recovery Rates: Theory, Empirical Evidence, and Implications," The Journal of Business, University of Chicago Press, vol. 78(6), pages 2203-2228, November.
    4. Edward Altman & Andrea Resti & Andrea Sironi, 2004. "Default Recovery Rates in Credit Risk Modelling: A Review of the Literature and Empirical Evidence," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 33(2), pages 183-208, 07.
    5. Michael B. Gordy, 2002. "A risk-factor model foundation for ratings-based bank capital rules," Finance and Economics Discussion Series 2002-55, Board of Governors of the Federal Reserve System (U.S.).
    6. Michael B. Gordy, 1998. "A comparative anatomy of credit risk models," Finance and Economics Discussion Series 1998-47, Board of Governors of the Federal Reserve System (U.S.).
    7. Loffler, Gunter, 2003. "The effects of estimation error on measures of portfolio credit risk," Journal of Banking & Finance, Elsevier, vol. 27(8), pages 1427-1453, August.
    8. Elena Andreou & Rita Desiano & Marianne Sensier, 2001. "The behaviour of stock returns and interest rates over the business cycle in the US and UK," Applied Economics Letters, Taylor & Francis Journals, vol. 8(4), pages 233-238.
    9. Dietsch, Michel & Petey, Joel, 2004. "Should SME exposures be treated as retail or corporate exposures? A comparative analysis of default probabilities and asset correlations in French and German SMEs," Journal of Banking & Finance, Elsevier, vol. 28(4), pages 773-788, April.
    10. Crouhy, Michel & Galai, Dan & Mark, Robert, 2000. "A comparative analysis of current credit risk models," Journal of Banking & Finance, Elsevier, vol. 24(1-2), pages 59-117, January.
    11. Michael DeStefano, 2004. "Stock Returns and the Business Cycle," The Financial Review, Eastern Finance Association, vol. 39(4), pages 527-547, November.
    12. Dirk Tasche, 2004. "The single risk factor approach to capital charges in case of correlated loss given default rates," Papers cond-mat/0402390, arXiv.org, revised Feb 2004.
    13. Klein, Peter, 1996. "Pricing Black-Scholes options with correlated credit risk," Journal of Banking & Finance, Elsevier, vol. 20(7), pages 1211-1229, August.
    14. Briys, Eric & de Varenne, François, 1997. "Valuing Risky Fixed Rate Debt: An Extension," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 32(02), pages 239-248, June.
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    Cited by:
    1. Klaus Rheinberger & Martin Summer, 2008. "Credit portfolio risk and asset price cycles," Computational Management Science, Springer, vol. 5(4), pages 337-354, October.

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