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Cyclicality in Losses on Bank Loans

Listed author(s):
  • Bart Keijsers

    (Erasmus University Rotterdam, the Netherlands)

  • Bart Diris

    (Erasmus University Rotterdam, the Netherlands)

  • Erik Kole

    (Erasmus University Rotterdam, the Netherlands)

Based on unique data we show that macro variables, the default rate and loss given default of bank loans share common cyclical components. The innovation in our model is the distinction between loans with either severe or mild losses. The variation in the proportion of these two types drives the cyclic behavior of the loss given default, and constitutes the links with the default rate and macro variables. These links vary according to loan and borrower characteristics. During downturns, the proportion of defaults with severe losses increases, but the distribution of losses conditional on their being mild or severe does not change. Though loans are monitored more closely than bonds and are more senior, the cyclical variation in their losses resembles those for bonds, albeit around a lower average level. This variation leads to an increase in the capital reserves required for loan portfolios.

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Paper provided by Tinbergen Institute in its series Tinbergen Institute Discussion Papers with number 15-050/III.

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Date of creation: 04 May 2015
Date of revision: 01 Sep 2017
Handle: RePEc:tin:wpaper:20150050
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