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Distance to default and the financial crisis

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  • Milne, Alistair

Abstract

This paper analyses contingent-claims based measures of distance to default (D2D) for the 41 largest global banking institutions over the period 2006H2 to 20011H2. D2D falls from end-2006 through to end-2008. Cross-sectional differences in D2D prior to the crisis do not predict either bank failure or bank share prices decline, but D2D measured in mid-2008 does have some predictive value for failure by end-year. The ‘option value’ of the bank safety net remains small except at the height of the crisis and there is little indication of bank shareholders consciously using the safety net to shift risk onto taxpayers.

Suggested Citation

  • Milne, Alistair, 2014. "Distance to default and the financial crisis," Journal of Financial Stability, Elsevier, vol. 12(C), pages 26-36.
  • Handle: RePEc:eee:finsta:v:12:y:2014:i:c:p:26-36
    DOI: 10.1016/j.jfs.2013.05.005
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    Cited by:

    1. Samuel Ronnqvist & Peter Sarlin, 2015. "Detect & Describe: Deep learning of bank stress in the news," Papers 1507.07870, arXiv.org.
    2. Ghosh, Amit, 2016. "How does banking sector globalization affect banking crisis?," Journal of Financial Stability, Elsevier, vol. 25(C), pages 70-82.
    3. Betz, Frank & Oprică, Silviu & Peltonen, Tuomas A. & Sarlin, Peter, 2014. "Predicting distress in European banks," Journal of Banking & Finance, Elsevier, vol. 45(C), pages 225-241.
    4. repec:eee:finsta:v:35:y:2018:i:c:p:226-241 is not listed on IDEAS
    5. Miller, Scott & Olson, Eric & Yeager, Timothy J., 2015. "The relative contributions of equity and subordinated debt signals as predictors of bank distress during the financial crisis," Journal of Financial Stability, Elsevier, vol. 16(C), pages 118-137.
    6. Allen, Linda & Tang, Yi, 2016. "What’s the contingency? A proposal for bank contingent capital triggered by systemic risk," Journal of Financial Stability, Elsevier, vol. 26(C), pages 1-14.
    7. Mollah, Sabur & Liljeblom, Eva, 2016. "Governance and bank characteristics in the credit and sovereign debt crises – the impact of CEO power11We are grateful to the Editor, Prof. Iftekhar Hasan and three anonymous referees for valuable com," Journal of Financial Stability, Elsevier, vol. 27(C), pages 59-73.
    8. Silva, Walmir & Kimura, Herbert & Sobreiro, Vinicius Amorim, 2017. "An analysis of the literature on systemic financial risk: A survey," Journal of Financial Stability, Elsevier, vol. 28(C), pages 91-114.
    9. Ghosh, Amit, 2015. "Banking-industry specific and regional economic determinants of non-performing loans: Evidence from US states," Journal of Financial Stability, Elsevier, vol. 20(C), pages 93-104.
    10. Thomas Conlon & John Cotter & Philip Molyneux, 2018. "Beyond Common Equity - The Influence of Secondary Capital on Bank Insolvency Risk," Working Papers 201806, Geary Institute, University College Dublin.
    11. Samuel Ronnqvist & Peter Sarlin, 2016. "Bank distress in the news: Describing events through deep learning," Papers 1603.05670, arXiv.org, revised Dec 2016.

    More about this item

    Keywords

    Bank default; Bank moral hazard; Bank regulation; Bank safety net; Contingent claims; Early warning systems; Global financial crisis; Market-based risk measurement; Systemic risk; Risk shifting;

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • 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

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