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Modeling default correlation in a US retail loan portfolio

Author

Listed:
  • Bams, Dennis
  • Pisa, Magdalena
  • Wolff, Christian C

Abstract

This paper generalizes the existing asymptotic single-factor model to address issues related to industry heterogeneity, default clustering and parameter uncertainty of capital requirement in US retail loan portfolios. We argue that the Basel II capital requirement overstates the riskiness of small businesses even with prudential adjustments. Moreover, our estimates show that both location and spread of loss distribution bare uncertainty. Their shifts over the course of the recent crisis have important risk management implications. The results are based on a unique representative dataset of US small businesses from 2005 to 2011 and give fundamental insights into the US economy.

Suggested Citation

  • Bams, Dennis & Pisa, Magdalena & Wolff, Christian C, 2012. "Modeling default correlation in a US retail loan portfolio," CEPR Discussion Papers 9205, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:9205
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    References listed on IDEAS

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    1. Glennon, Dennis & Nigro, Peter, 2005. "Measuring the Default Risk of Small Business Loans: A Survival Analysis Approach," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 37(5), pages 923-947, October.
    2. Duffie, Darrell & Saita, Leandro & Wang, Ke, 2007. "Multi-period corporate default prediction with stochastic covariates," Journal of Financial Economics, Elsevier, vol. 83(3), pages 635-665, March.
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    4. Lopez, Jose A., 2004. "The empirical relationship between average asset correlation, firm probability of default, and asset size," Journal of Financial Intermediation, Elsevier, vol. 13(2), pages 265-283, April.
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    8. Merton, Robert C, 1974. "On the Pricing of Corporate Debt: The Risk Structure of Interest Rates," Journal of Finance, American Finance Association, vol. 29(2), pages 449-470, May.
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    12. 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..
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    Cited by:

    1. Bams, Dennis & Pisa, Magdalena & Wolff, Christian C, 2015. "Ripple effects from industry defaults," CEPR Discussion Papers 10891, C.E.P.R. Discussion Papers.
    2. Düllmann, Klaus & Koziol, Philipp, 2013. "Evaluation of minimum capital requirements for bank loans to SMEs," Discussion Papers 22/2013, Deutsche Bundesbank.

    More about this item

    Keywords

    Credit risk;

    JEL classification:

    • G2 - Financial Economics - - Financial Institutions and Services
    • G3 - Financial Economics - - Corporate Finance and Governance

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