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Modelling the distribution of credit losses with observable and latent factors

  • Jiménez, Gabriel
  • Mencía, Javier
Registered author(s):

    This paper proposes a dynamic model to estimate the credit loss distribution of the aggregate portfolio of loans granted in a banking system. We consider a sectoral approach distinguishing between corporates and households. The evolution of their default frequencies and the size of the loans portfolio are expressed as functions of macroeconomic conditions as well as unobservable credit risk factors, which capture contagion effects between sectors. In addition, we model the distributions of the Exposures at Default and the Losses Given Default. We apply our framework to the Spanish banking system, where we find that sectoral default frequencies are not only affected by economic cycles but also by a persistent latent factor. Finally, we identify the riskier sectors, perform stress tests and compare the relative risk of small and large institutions.

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    File URL: http://www.sciencedirect.com/science/article/pii/S0927-5398(08)00081-9
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    Article provided by Elsevier in its journal Journal of Empirical Finance.

    Volume (Year): 16 (2009)
    Issue (Month): 2 (March)
    Pages: 235-253

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    Handle: RePEc:eee:empfin:v:16:y:2009:i:2:p:235-253
    Contact details of provider: Web page: http://www.elsevier.com/locate/jempfin

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    17. Til Schuermann & Kevin J. Stiroh, 2006. "Visible and hidden risk factors for banks," Staff Reports 252, Federal Reserve Bank of New York.
    18. Virolainen, Kimmo, 2003. "Macro stress testing with a macroeconomic credit risk model for Finland," Research Discussion Papers 18/2004, Bank of Finland.
    19. Jimenez, Gabriel & Salas, Vicente & Saurina, Jesus, 2006. "Determinants of collateral," Journal of Financial Economics, Elsevier, vol. 81(2), pages 255-281, August.
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