Post by Sapphire Capital on Aug 9, 2008 1:26:18 GMT 4
The Role of Correlation in the Current Credit Ratings Squeeze
Eva R. Porras
Institute of Business - Department of Finance
Abstract:
A current matter of preoccupation is the financial crisis in the US, and Europe. This event is the consequence of a large number of credit rating downgrades in AAA structures of mortgages that have affected the US real estate industry since March 2007. This paper focuses on one aspect of credit risk analysis: the importance of default correlation in measuring credit risk in subprime portfolios as a key variable in the current financial crisis. We show empirically how different estimates of such correlation coefficient impact the sigmas of the portfolio of assets significantly. We propose three reasons to explain the underestimation of these coefficients in the past. This paper supports the idea that better understanding of the correlations implied within subprime loan portfolios would help rating companies, lenders, and regulators improve their evaluation of default risks.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1134488_code831968.pdf?abstractid=1134488&mirid=3
Eva R. Porras
Institute of Business - Department of Finance
Abstract:
A current matter of preoccupation is the financial crisis in the US, and Europe. This event is the consequence of a large number of credit rating downgrades in AAA structures of mortgages that have affected the US real estate industry since March 2007. This paper focuses on one aspect of credit risk analysis: the importance of default correlation in measuring credit risk in subprime portfolios as a key variable in the current financial crisis. We show empirically how different estimates of such correlation coefficient impact the sigmas of the portfolio of assets significantly. We propose three reasons to explain the underestimation of these coefficients in the past. This paper supports the idea that better understanding of the correlations implied within subprime loan portfolios would help rating companies, lenders, and regulators improve their evaluation of default risks.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1134488_code831968.pdf?abstractid=1134488&mirid=3