EconPapers    
Economics at your fingertips  
 

Modeling frailty-correlated defaults using many macroeconomic covariates

Siem Jan Koopman, Andre Lucas and Bernd Schwaab

Journal of Econometrics, 2011, vol. 162, issue 2, 312-325

Abstract: We propose a novel time series panel data framework for estimating and forecasting time-varying corporate default rates subject to observed and unobserved risk factors. In an empirical application for a U.S. dataset, we find a large and significant role for a dynamic frailty component even after controlling for more than 80% of the variation in more than 100 macro-financial covariates and other standard risk factors. We emphasize the need for a latent component to prevent a downward bias in estimated default rate volatility and in estimated probabilities of extreme default losses on portfolios of U.S. debt. The latent factor does not substitute for a single omitted macroeconomic variable. We argue that it captures different omitted effects at different times. We also provide empirical evidence that default and business cycle conditions partly depend on different processes. In an out-of-sample forecasting study for point-in-time default probabilities, we obtain mean absolute error reductions of more than forty percent when compared to models with observed risk factors only. The forecasts are relatively more accurate when default conditions diverge from aggregate macroeconomic conditions.

Keywords: Systematic; default; risk; Frailty-correlated; defaults; State; space; methods; Credit; risk; management (search for similar items in EconPapers)
Date: 2011
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (90)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0304-4076(11)00030-3
Full text for ScienceDirect subscribers only

Related works:
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:eee:econom:v:162:y:2011:i:2:p:312-325

Access Statistics for this article

Journal of Econometrics is currently edited by T. Amemiya, A. R. Gallant, J. F. Geweke, C. Hsiao and P. M. Robinson

More articles in Journal of Econometrics from Elsevier
Bibliographic data for series maintained by Catherine Liu ().

 
Page updated 2025-03-31
Handle: RePEc:eee:econom:v:162:y:2011:i:2:p:312-325