EAD calibration for corporate credit lines
Managing the credit risk inherent to a corporate credit line is similar to that of a term loan, but with one key difference. For both instruments, the bank should know the borrower's probability of default (PD) and the facility's loss given default (LGD). However, since a credit line allows the borrowers to draw down the committed funds according to their own needs, the bank must also have a measure of the line's exposure at default (EAD). Our study, which is based on a census of all corporate lending within Spain over the last 20 years, provides the most comprehensive overview of corporate credit line use and EAD calculations to date. Our analysis shows that defaulting firms have significantly higher credit line usage rates and EAD values up to five years prior to their actual default. Furthermore, we find that there are important variations in EAD values due to credit line size, collateralization, and maturity. While our results are derived from data for a single country, they should provide useful benchmarks for further academic, business and policy research into this underdeveloped area of credit risk management.
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