Abstract
Due to an increasing economic instability worldwide, financial institutions are demanding more robust and powerful methodologies of credit risk modeling in order to ensure their financial health. The statistical model CreditRisk+, developed by Credit Suisse Financial Products (CSFP), is widely spread in the insurance market since it is not necessary to make assumptions. This is because the model is based on the default risk, that is, non-payment risk. The main goal of the above-mentioned model is to measure expected and non-expected losses in a credit portfolio. In order to measure default events, the model suggests grouping the debtors in exposure ranges so that the loss distribution can be approached to a Poisson. In the basic model, the default rates are fixed. To portray reality, we propose a new modeling in which the uncertainties and volatilities of default rates are incorporated. In this case, a new model which assumes a Gamma distribution in association with these uncertainties is defined. From the obtained distribution, not only is it possible to calculate the credit VaR (Value-at-Risk) but also the loss distribution and some point estimates, such as the expected loss in a certain period of time and the economic capital allocation. The main goal of this article is the CreditRisk+ model application with uncertainties in a segment of Brazilian industry. The economic capital allocation, that is, the difference between VaR and the expected deprival value is always higher, depending on the proposed modeling (with the incorporation of uncertainties, volatilities and the default rates). Our result is important, since financial institutions can be underestimating their losses in stressful moments.
Highlights
Credit risk is in direct association to the core activity of financial institutions, which is resource trading among agents
We will present the CreditRisk+ fixed rate model, the way uncertainty is added to the rate, the variable rate model, the use of grouping by sectors and, the calculation of the loss distribution
CreditRisk+ is designed to incorporate the effects of variability into the average default rates, there is a circumstance in which the model behaves as if the default rates were corrected
Summary
Credit risk is in direct association to the core activity of financial institutions, which is resource trading among agents. The main goal of the calculation of credit risk is to correct estimate the loss distribution in a loan portfolio. The New Basel Capital Accord (2004) defined that the VaR should be provisioned as collateral until the end of the process This agreement is intended to avoid bankruptcies of financial institutions. Due to the importance of VaR measurement, several commercial models that calculate the portfolio’s credit risk were developed in the 1990s, such as CreditMetrics, CreditRisk+ and KMV (CHAIA, A.J., 2003). CreditRisk+ is a model introduced by Credit Suisse Financial Products (1997) The purpose of this model is to find expected portfolio losses and unexpected losses for capital allocation purposes. The last section presents conclusions and final considerations on the application of the Credit Risk calculation using the CreditRisk+ model
Sign-in/Register to view highlights & summary Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have
Schedule a callDisclaimer: All third-party content on this website/platform is and will remain the property of their respective owners and is provided on "as is" basis without any warranties, express or implied. Use of third-party content does not indicate any affiliation, sponsorship with or endorsement by them. Any references to third-party content is to identify the corresponding services and shall be considered fair use under The CopyrightLaw.
