Sector concentration in loan portfolios and economic capital
The purpose of this paper is to measure the potential impact of business-sector concentration on economic capital for loan portfolios and to explore a tractable model for its measurement. The empirical part evaluates the increase in economic capital in a multi-factor asset value model for portfolios with increasing sector concentration. The sector composition is based on credit information from the German central credit register. Finding that business sector concentration can substantially increase economic capital, the theoretical part of the paper explores whether this risk can be measured by a tractable model that avoids Monte Carlo simulations. We analyze a simplified version of the analytic value-at-risk approximation developed by Pykhtin (2004), which only requires risk parameters on a sector level. Sensitivity analyses with various input parameters show that the analytic approximation formulae perform well in approximating economic capital for portfolios which are homogeneous on a sector level in terms of PD and exposure size. Furthermore, we explore the robustness of our results for portfolios which are heterogeneous in terms of these two characteristics. We find that low granularity ceteris paribus causes the analytic approximation formulae to underestimate economic capital, whereas heterogeneity in individual PDs causes overestimation. Indicative results imply that in typical credit portfolios, PD heterogeneity will at least compensate for the granularity effect. This suggests that the analytic approximations estimate economic capital reasonably well and/or err on the conservative side.
|Date of creation:||2006|
|Date of revision:|
|Contact details of provider:|| Postal: Postfach 10 06 02, 60006 Frankfurt|
Phone: 0 69 / 95 66 - 34 55
Fax: 0 69 / 95 66 30 77
Web page: http://www.bundesbank.de/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Dietsch, Michel & Petey, Joel, 2002. "The credit risk in SME loans portfolios: Modeling issues, pricing, and capital requirements," Journal of Banking & Finance, Elsevier, vol. 26(2-3), pages 303-322, March.
- 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.
- Jose A. Lopez, 2002. "The empirical relationship between average asset correlation, firm probability of default and asset size," Working Paper Series 2002-05, Federal Reserve Bank of San Francisco.
- Gordy, Michael B., 2000.
"A comparative anatomy of credit risk models,"
Journal of Banking & Finance,
Elsevier, vol. 24(1-2), pages 119-149, January.
- Merton, Robert C., 1973.
"On the pricing of corporate debt: the risk structure of interest rates,"
684-73., Massachusetts Institute of Technology (MIT), Sloan School of Management.
- 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 449-70, May.
- Michael B. Gordy, 2002.
"A risk-factor model foundation for ratings-based bank capital rules,"
Finance and Economics Discussion Series
2002-55, Board of Governors of the Federal Reserve System (U.S.).
- Gordy, Michael B., 2003. "A risk-factor model foundation for ratings-based bank capital rules," Journal of Financial Intermediation, Elsevier, vol. 12(3), pages 199-232, July.
- M. Hashem Pesaran & Til Schuermann & Björn-Jakob Treutler, 2005.
"The Role of Industry, Geography and Firm Heterogeneity in Credit Risk Diversification,"
IEPR Working Papers
05.25, Institute of Economic Policy Research (IEPR).
- Pesaran, M.H. & Schuermann, T. & Treutler, B-J., 2005. "The Role of Industry, Geography and Firm Heterogeneity in Credit Risk Diversification," Cambridge Working Papers in Economics 0529, Faculty of Economics, University of Cambridge.
- Gourieroux, C. & Laurent, J. P. & Scaillet, O., 2000.
"Sensitivity analysis of Values at Risk,"
Journal of Empirical Finance,
Elsevier, vol. 7(3-4), pages 225-245, November.
- Christian Gourieroux & J. P. Laurent & Olivier Scaillet, 2000. "Sensitivity Analysis of Values at Risk," Econometric Society World Congress 2000 Contributed Papers 0162, Econometric Society.
- Christian Gourieroux & Jean-Paul Laurent & Olivier Scaillet, 2000. "Sensitivity Analysis of Values at Risk," Working Papers 2000-05, Centre de Recherche en Economie et Statistique.
- Gouriéroux, Christian & Laurent, J.P. & Scaillet, Olivier, 1999. "Sensitivity Analysis of Values at Risk," Discussion Papers (IRES - Institut de Recherches Economiques et Sociales) 2000002, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES), revised 00 Jan 2000.
- C. Gourieroux & J.P. Laurent & O. Scaillet, 2000. "Sensitivity analysis of values at risk," THEMA Working Papers 2000-04, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise.
- Krüger, Ulrich & Stötzel, Martin & Trück, Stefan, 2005. "Time series properties of a rating system based on financial ratios," Discussion Paper Series 2: Banking and Financial Studies 2005,14, Deutsche Bundesbank, Research Centre.
When requesting a correction, please mention this item's handle: RePEc:zbw:bubdp2:5156. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (ZBW - German National Library of Economics)
If references are entirely missing, you can add them using this form.