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Article
Publication date: 12 February 2018

Lucia Gibilaro and Gianluca Mattarocci

This paper aims to analyse the exposure at default (EAD) in the event of multiple banking relationships to understand the differences with respect to solo banking…

Abstract

Purpose

This paper aims to analyse the exposure at default (EAD) in the event of multiple banking relationships to understand the differences with respect to solo banking relationships and forecast the banks risk exposure.

Design/methodology/approach

The paper uses a unique database provided by the Italian public credit register representative of the full Italian market before the financial crisis. The analysis compares different EAD risk proxies for debtors with unique and multiple banking relationships to underline the main differences among the two groups.

Findings

Results show that EAD forecast could be improved considering the existence of exposures with other lenders and banks that consider such type of information can reduce the risk of underestimating the risk exposure of a debtor.

Originality/value

The paper is the first attempt to model the EAD on the basis of the existence of multiple lending exposures. Results demonstrate a different lender’s risk exposure for debtors with multiple credit risk exposure and show the usefulness of the information about the overall system exposure in evaluating the risk exposure related to this type of customers.

Details

Journal of Financial Regulation and Compliance, vol. 26 no. 1
Type: Research Article
ISSN: 1358-1988

Keywords

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Article
Publication date: 1 February 2004

DANIEL RÖSCH and HARALD SCHEULE

A major topic in retail lending is the measurement of the inherent portfolio credit risk. The needs for a better understanding and dealing with default risky securities…

Abstract

A major topic in retail lending is the measurement of the inherent portfolio credit risk. The needs for a better understanding and dealing with default risky securities have been reinforced by the Basel Committee on Banking Supervision [1999a, 1999b, 2000, 2001a, 2001b, 2002, 2003] which has proposed a revision of the standards for banks' capital requirements.

Details

The Journal of Risk Finance, vol. 5 no. 2
Type: Research Article
ISSN: 1526-5943

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Book part
Publication date: 28 October 2019

Angelo Corelli

Abstract

Details

Understanding Financial Risk Management, Second Edition
Type: Book
ISBN: 978-1-78973-794-3

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Book part
Publication date: 28 October 2019

Angelo Corelli

Abstract

Details

Understanding Financial Risk Management, Second Edition
Type: Book
ISBN: 978-1-78973-794-3

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Abstract

Details

The Banking Sector Under Financial Stability
Type: Book
ISBN: 978-1-78769-681-5

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Article
Publication date: 1 November 2004

Lyubov Zech and Glenn Pederson

A credit risk model suitable for agricultural lenders is identified. The model incorporates sector correlations and is applied to the loan portfolio of an agricultural…

Abstract

A credit risk model suitable for agricultural lenders is identified. The model incorporates sector correlations and is applied to the loan portfolio of an agricultural credit association to create a distribution of loan losses. The distribution is used to derive the lender’s expected and unexpected losses. Results of the analysis indicate that the association is more than adequately capitalized based on 1997S2002 data. Since the capital position of the association is lower than that of most other associations in the Farm Credit System, this raises the issue of overcapitalization in the System.

Details

Agricultural Finance Review, vol. 64 no. 2
Type: Research Article
ISSN: 0002-1466

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Article
Publication date: 8 July 2014

Michael Jacobs Jr.

– This study aims to survey supervisory requirements and expectations for counterparty credit risk (CCR).

Abstract

Purpose

This study aims to survey supervisory requirements and expectations for counterparty credit risk (CCR).

Design/methodology/approach

In this paper, a survey of CCR including the following elements has been performed. First, various concepts in CCR measurement and management, including prevalent practices, definitions and conceptual issues have been introduced. Then, various supervisory requirements and expectations with respect to CCR have been summarized. This study has multiple areas of relevance and may be extended in various ways. Risk managers, traders and regulators may find this to be a valuable reference. Directions for future research could include empirical analysis, development of a theoretical framework and a comparative analysis of systems for analyzing and regulating CCR.

Findings

Some of the thoughts regarding the concept of risk will be considered and surveyed, and then how these apply to CCR will be considered. A classical dichotomy exists in the literature, the earliest exposition upon which is credited to Knight (1921), who defines uncertainty is when it is not possible to measure a probability distribution or it is unknown. This is contrasted with the situation where either the probability distribution is known, or knowable through repeated experimentation. Arguably, in economic and finance (and more broadly in the social or natural as opposed to the physical or mathematical sciences), the former is a more realistic scenario that is being contending with (e.g. a fair vs loaded die, or die with unknown number of sides.) The authors are forced to rely upon empirical data to estimate loss distributions, but this is complicated because of changing economic conditions, which invalidate forecasts that our econometric models generate.

Originality/value

This is one of few studies of the CCR regulations that is so far-reaching.

Details

Journal of Financial Regulation and Compliance, vol. 22 no. 3
Type: Research Article
ISSN: 1358-1988

Keywords

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Article
Publication date: 1 January 2012

Pinaki Bag and Michael Jacobs

The purpose of this paper is to build an easy to implement, pragmatic and parsimonious yet accurate model to determine an exposure at default (EAD) distribution for CCL…

Abstract

Purpose

The purpose of this paper is to build an easy to implement, pragmatic and parsimonious yet accurate model to determine an exposure at default (EAD) distribution for CCL (contingent credit lines) portfolios.

Design/methodology/approach

Using an algorithm similar to the basic CreditRisk+ and Fourier Transforms, the authors arrive at a portfolio level probability distribution of usage.

Findings

The authors perform a simulation experiment which illustrates the convolution of two portfolio segments to derive an EAD distribution, chosen randomly from Moody's Default Risk Service (DRS) database of CCLs rated as of 12/31/2008, to derive an EAD distribution. The standard deviation of the usage distribution is found to decrease as we increase the number of puts used, but the mean value remains relatively stable, as the extreme points converge towards the mean to produce a shrinkage in the spread of the distribution. The authors also observe, for the sample portfolio, that an increase in the additional usage rate level also increases the volatility of the associated exposure distribution.

Practical implications

This model, in conjunction with internal bank financial institution research, can be used for banks' EAD estimation as mandated by Basel II for bank CCL portfolios, or implemented as part of a Solvency II process for insurers exposed to credit sensitive unfunded commitments. Apart from regulatory requirements, distributions of stochastic exposure generated can be inputs for different economic capital models and stress testing procedures used to capture an accurate risk profile of the portfolio, as well as providing better insights into the problem of managing liquidity risk for a portfolio of CCLs and similar exposures.

Originality/value

In‐spite of the large volume of CCLs in portfolios of financial institutions all (for commercial banks holding these as well as for insurance companies having analogous exposures), paucity of EAD models, unsuitability of external data and inconsistent internal data with partial draw‐downs have been a major challenge for risk managers as well as regulators in managing CCL portfolios.

Details

The Journal of Risk Finance, vol. 13 no. 1
Type: Research Article
ISSN: 1526-5943

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Article
Publication date: 28 May 2021

Robert Stewart

The purpose of this study is to demonstrate that the internal ratings-based (IRB) approach provides more effective risk discrimination than the standardized approach when…

Abstract

Purpose

The purpose of this study is to demonstrate that the internal ratings-based (IRB) approach provides more effective risk discrimination than the standardized approach when calculating regulatory capital for retail credit risk exposures.

Design/methodology/approach

The author uses four retail credit data sets to compare regulatory capital appropriation using the IRB approach and the standardized approach. The author follows the regulatory capital calculation method recommended under Basel III. For the IRB approach, the author uses a logistic regression to determine the probability of default.

Findings

The results suggest that the IRB approach provides more effective risk discrimination across individual exposures, which allows more regulatory capital to be held against riskier exposures and less regulatory capital to be held against less risky exposures. The author further argues that the Basel III output floor, as presently constructed, may disincentivize the use of the IRB approach and further diminish the value of secured lending under the IRB approach. To address this issue, the author offers two simple adjustments to the current design of the output floor.

Originality/value

While studies have argued the idea of risk-sensitive regulatory capital, the author has not observed any research that empirically compares the risk-sensitivity of regulatory capital across retail credit exposures, which makes up a significant portion of many banks’ credit exposures. This study also highlights what appears to be a major point of concern for the output floor, which is set to be phased in starting January 2022. This is of particular value because this point has not appeared to receive any attention in the literature thus far.

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Article
Publication date: 9 May 2016

Silvio Tarca and Marek Rutkowski

This study aims to render a fundamental assessment of the Basel II internal ratings-based (IRB) approach by taking readings of the Australian banking sector since the…

Abstract

Purpose

This study aims to render a fundamental assessment of the Basel II internal ratings-based (IRB) approach by taking readings of the Australian banking sector since the implementation of Basel II and comparing them with signals from macroeconomic indicators, financial statistics and external credit ratings. The IRB approach to capital adequacy for credit risk, which implements an asymptotic single risk factor (ASRF) model, plays an important role in protecting the Australian banking sector against insolvency.

Design/methodology/approach

Realisations of the single systematic risk factor, interpreted as describing the prevailing state of the Australian economy, are recovered from the ASRF model and compared with macroeconomic indicators. Similarly, estimates of distance-to-default, reflecting the capacity of the Australian banking sector to absorb credit losses, are recovered from the ASRF model and compared with financial statistics and external credit ratings. With the implementation of Basel II preceding the time when the effect of the financial crisis of 2007-2009 was most acutely felt, the authors measure the impact of the crisis on the Australian banking sector.

Findings

Measurements from the ASRF model find general agreement with signals from macroeconomic indicators, financial statistics and external credit ratings. This leads to a favourable assessment of the ASRF model for the purposes of capital allocation, performance attribution and risk monitoring. The empirical analysis used in this paper reveals that the recent crisis imparted a mild stress on the Australian banking sector.

Research limitations/implications

Given the range of economic conditions, from mild contraction to moderate expansion, experienced in Australia since the implementation of Basel II, the authors cannot attest to the validity of the model specification of the IRB approach for its intended purpose of solvency assessment.

Originality/value

Access to internal bank data collected by the prudential regulator distinguishes this paper from other empirical studies on the IRB approach and financial crisis of 2007-2009. The authors are not the first to attempt to measure the effects of the recent crisis, but they believe that they are the first to do so using regulatory data.

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