Modeling rating transitions with instantaneous default

Rafael Weißbach and Fynn Strohecker

Economics Letters, 2016, vol. 145, issue C, 38-40

Abstract: The time-continuous discrete-state Markov process is a common model for rating transitions. We present a low-dimensional model that jointly models defaults as a consequence of a cascade of downgrades, as well as an instantaneous default from a good rating grade, and study the resulting maximum-likelihood estimator. By using a martingale limit theorem, we show asymptotic normality. Using a regional cooperative bank portfolio as a sample, reveals that an increase in credit quality is more likely for corporate debtors with poor ratings, while for good ratings, a downgrade is more likely. The effect can be described as a contraction toward medium rating grades.

Keywords: Rating; Markov process; Maximum-likelihood; Asymptotic normality (search for similar items in EconPapers)
JEL-codes: C33 C34 C41 (search for similar items in EconPapers)
Date: 2016
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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecolet:v:145:y:2016:i:c:p:38-40

DOI: 10.1016/j.econlet.2016.05.013

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