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A survey of cyclical effects in credit risk measurement model

Author

Listed:
  • Linda Allen

    (Zicklin School of Business, Baruch College, CUNY)

  • Anthony Saunders

    (New York University - Leonard N. Stern School of Business)

Abstract

We survey both academic and proprietary models to examine how macroeconomic and systematic risk effects are incorporated into measures of credit risk exposure. Many models consider the correlation between the probability of default (PD) and cyclical factors. Few models adjust loss rates (loss given default) to reflect cyclical effects. We find that the possibility of systematic correlation between PD and LGD is also neglected in currently available models.

Suggested Citation

  • Linda Allen & Anthony Saunders, 2003. "A survey of cyclical effects in credit risk measurement model," BIS Working Papers 126, Bank for International Settlements.
  • Handle: RePEc:bis:biswps:126
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    References listed on IDEAS

    as
    1. Jarrow, Robert A. & Turnbull, Stuart M., 2000. "The intersection of market and credit risk," Journal of Banking & Finance, Elsevier, vol. 24(1-2), pages 271-299, January.
    2. Nickell, Pamela & Perraudin, William & Varotto, Simone, 2000. "Stability of rating transitions," Journal of Banking & Finance, Elsevier, vol. 24(1-2), pages 203-227, January.
    3. Patrick Houweling & Ton Vorst, 2001. "An Empirical Comparison of Default Swap Pricing Models," Finance 0112003, EconWPA.
    4. Robert A. Jarrow & Fan Yu, 2008. "Counterparty Risk and the Pricing of Defaultable Securities," World Scientific Book Chapters,in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 20, pages 481-515 World Scientific Publishing Co. Pte. Ltd..
    5. Robert A. Jarrow & David Lando & Stuart M. Turnbull, 2008. "A Markov Model for the Term Structure of Credit Risk Spreads," World Scientific Book Chapters,in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 18, pages 411-453 World Scientific Publishing Co. Pte. Ltd..
    6. Mella-Barral, Pierre & Perraudin, William, 1997. " Strategic Debt Service," Journal of Finance, American Finance Association, vol. 52(2), pages 531-556, June.
    7. Christian B. Mulder & Brieuc Monfort, 2000. "Using Credit Ratings for Capital Requirementson Lending to Emerging Market Economies; Possible Impact of a New Basel Accord," IMF Working Papers 00/69, International Monetary Fund.
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