Loss functions for LGD model comparison

Christophe Hurlin, Jérémy Leymarie and Antoine Patin
Additional contact information
Antoine Patin: LEO - Laboratoire d'Économie d'Orleans [UMR7322] - UO - Université d'Orléans - UT - Université de Tours - CNRS - Centre National de la Recherche Scientifique

Working Papers from HAL

Abstract: We propose a new approach for comparing Loss Given Default (LGD) models which is based on loss functions defined in terms of regulatory capital charge. Our comparison method improves the banks' ability to absorb their unexpected credit losses, by penalizing more heavily LGD forecast errors made on credits associated with high exposure and long maturity. We also introduce asymmetric loss functions that only penalize the LGD forecast errors that lead to underestimate the regulatory capital. We show theoretically that our approach ranks models differently compared to the traditional approach which only focuses on LGD forecast errors. We apply our methodology to six competing LGD models using a sample of almost 10,000 defaulted credit and leasing contracts provided by an international bank. Our empirical findings clearly show that models' rankings based on capital charge losses differ from those based on the LGD loss functions currently used by regulators, banks, and academics.

Keywords: Risk management; Loss Given Default (LGD); Credit Risk Capital Requirement; Loss Function; Forecasts Comparison (search for similar items in EconPapers)
Date: 2018-01-10
New Economics Papers: this item is included in nep-rmg
Note: View the original document on HAL open archive server: https://shs.hal.science/halshs-01516147v3
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://shs.hal.science/halshs-01516147v3/document (application/pdf)

Related works:
Working Paper: Loss Functions for LGD Models Comparison (2018)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:hal:wpaper:halshs-01516147

Access Statistics for this paper

More papers in Working Papers from HAL
Bibliographic data for series maintained by CCSD ().