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Determining the economic value of ambiguous loan portfolios

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  • Parnes, Dror

Abstract

This study presents a framework to assess the fair economic value of ambiguous loan portfolios, i.e. when the credit qualities of the loans within are deeply masked or simply undetermined through traditional techniques. In this case, the second best choice for approximating the portfolio’s economic value would be to lean on the past performance of the designated credit officer who either approved or rejected the loan applications. The article presents a Beta-Binomial distribution model that captures the entire spectrum of possible economic valuations and their respective likelihoods and shows that this dissemination can be summarized to a single fair economic value for any ambiguous loan portfolios. This methodology exhibits high importance to regulators, policy makers, and internal auditors.

Suggested Citation

  • Parnes, Dror, 2015. "Determining the economic value of ambiguous loan portfolios," Finance Research Letters, Elsevier, vol. 13(C), pages 148-154.
    • Handle: RePEc:eee:finlet:v:13:y:2015:i:c:p:148-154
    DOI: 10.1016/j.frl.2015.02.002
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    References listed on IDEAS

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    1. Bharath, Sreedhar & Dahiya, Sandeep & Saunders, Anthony & Srinivasan, Anand, 2007. "So what do I get? The bank's view of lending relationships," Journal of Financial Economics, Elsevier, vol. 85(2), pages 368-419, August.
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    3. Dmytro Holod & Joe Peek, 2013. "The value to banks of small business lending," Working Papers 13-7, Federal Reserve Bank of Boston.
    4. Maskara, Pankaj Kumar, 2010. "Economic value in tranching of syndicated loans," Journal of Banking & Finance, Elsevier, vol. 34(5), pages 946-955, May.
    5. Allen Berger & Adrian Cowan & W. Frame, 2011. "The Surprising Use of Credit Scoring in Small Business Lending by Community Banks and the Attendant Effects on Credit Availability, Risk, and Profitability," Journal of Financial Services Research, Springer;Western Finance Association, vol. 39(1), pages 1-17, April.
    6. Taylor, Nicholas, 2012. "Measuring the economic value of loan advice," Economics Letters, Elsevier, vol. 117(3), pages 615-618.
    7. Boot, Arnoud W. A., 2000. "Relationship Banking: What Do We Know?," Journal of Financial Intermediation, Elsevier, vol. 9(1), pages 7-25, January.
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    Cited by:

    1. Mahdiyeh Rezaei Chayjan & Tina Bagheri & Ahmad Kianian & Niloufar Ghafari Someh, 2022. "The optimisation of banking loan portfolio: a case of an Iranian commercial bank," International Journal of Financial Services Management, Inderscience Enterprises Ltd, vol. 11(3), pages 190-215.

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    More about this item

    Keywords

    Ambiguous loan portfolios; Economic value; Relationship lending; Beta-Binomial distribution; Sensitivity; Specificity;
    All these keywords.

    JEL classification:

    • C15 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Statistical Simulation Methods: General
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • H81 - Public Economics - - Miscellaneous Issues - - - Governmental Loans; Loan Guarantees; Credits; Grants; Bailouts

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