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Asset correlations and credit portfolio risk: an empirical analysis

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  • Klaus Duellmann
  • Martin Scheicher
  • Christian Schmieder

Abstract

ABSTRACT We estimate asset correlations from monthly time series of Moody’sKMVasset values for around 2,000 European firms from 1996 to 2004. We explore their impact on the value-at-risk (VaR) of credit portfolios in a (single-factor) market model and a (multi-factor) sector model. Our main finding is a complex interaction of asset correlations and default probabilities affecting portfolio risk. Averaging asset correlations on a sector level can substantially underestimate the VaR in a portfolio with heterogeneous borrower size. The VaR of the internal ratings-based model is more stable over time than the VaR of the market model and the sector model.

Suggested Citation

  • Klaus Duellmann & Martin Scheicher & Christian Schmieder, . "Asset correlations and credit portfolio risk: an empirical analysis," Journal of Credit Risk, Journal of Credit Risk.
    • Handle: RePEc:rsk:journ1:2160722
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    Cited by:

    1. Klaus Duellmann & Martin Erdelmeier, 2009. "Crash Testing German Banks," International Journal of Central Banking, International Journal of Central Banking, vol. 5(3), pages 139-175, September.
    2. Simone Varotto, 2008. "An Assessment of the Internal Rating Based Approach in Basel II," ICMA Centre Discussion Papers in Finance icma-dp2008-04, Henley Business School, University of Reading.
    3. Düllmann, Klaus & Kunisch, Michael & Küll, Jonathan, 2008. "Estimating asset correlations from stock prices or default rates: which method is superior?," Discussion Paper Series 2: Banking and Financial Studies 2008,04, Deutsche Bundesbank.
    4. Byström, Hans, 2016. "The Currency Composition of Firms' Balance Sheets and its Effect on Asset Value Correlations and Capital Requirements," Working Papers 2016:1, Lund University, Department of Economics.
    5. Mikael Juselius & Nikola Tarashev, 2022. "When uncertainty decouples expected and unexpected losses," BIS Working Papers 995, Bank for International Settlements.
    6. Mr. Daniel C Hardy & Mr. Christian Schmieder, 2013. "Rules of Thumb for Bank Solvency Stress Testing," IMF Working Papers 2013/232, International Monetary Fund.
    7. repec:zbw:bofrdp:2022_004 is not listed on IDEAS
    8. Byström, Hans, 2017. "The currency composition of firms' balance sheets, asset value correlations, and capital requirements," Global Finance Journal, Elsevier, vol. 34(C), pages 89-99.
    9. Mikael Juselius & Nikola Tarashev, 2022. "When uncertainty decouples expected and unexpected losses," BIS Working Papers 995, Bank for International Settlements.
    10. Schmidt, Rafael & Schmieder, Christian, 2009. "Modelling dynamic portfolio risk using risk drivers of elliptical processes," Insurance: Mathematics and Economics, Elsevier, vol. 44(2), pages 229-244, April.
    11. Klaus Duellmann & Jonathan Küll & Michael Kunisch, 2010. "Estimating asset correlations from stock prices or default rates - which method is superior?," Post-Print hal-00736734, HAL.
    12. Nikola Tarashev & Haibin Zhu, 2007. "Measuring portfolio credit risk: modelling versus calibration errors," BIS Quarterly Review, Bank for International Settlements, March.
    13. Chamizo, Álvaro & Fonollosa, Alexandre & Novales, Alfonso, 2019. "Forward-looking asset correlations in the estimation of economic capital," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 61(C), pages 264-288.
    14. Duellmann, Klaus & Küll, Jonathan & Kunisch, Michael, 2010. "Estimating asset correlations from stock prices or default rates--Which method is superior?," Journal of Economic Dynamics and Control, Elsevier, vol. 34(11), pages 2341-2357, November.
    15. Nikola Tarashev & Haibin Zhu, 2008. "Specification and Calibration Errors in Measures of Portfolio Credit Risk: The Case of the ASRF Model," International Journal of Central Banking, International Journal of Central Banking, vol. 4(2), pages 129-173, June.
    16. Mager, Ferdinand & Schmieder, Christian, 2008. "Stress testing of real credit portfolios," Discussion Paper Series 2: Banking and Financial Studies 2008,17, Deutsche Bundesbank.
    17. Nikola A. Tarashev & Haibin Zhu, 2007. "Modelling and calibration errors in measures of portfolio credit risk," BIS Working Papers 230, Bank for International Settlements.

    More about this item

    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

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