Contagion effect on bond portfolio risk measures in a hybrid credit risk model

Mathieu Boudreault, Geneviève Gauthier and Tommy Thomassin

Finance Research Letters, 2014, vol. 11, issue 2, 131-139

Abstract: This paper illustrates how modelling the contagion effect among assets of a given bond portfolio changes the risk perception associated to it. This empirical work is developed in a hybrid credit risk framework that incorporates recovery rate risk. Dependence structures among firms and between external shocks affecting firms together are considered. The presence of correlations among firm leverage ratios and the interrelation between default probabilities and recovery rates produces clusters of defaults with low recovery rates. This has a major impact on standard risk measures such as Value-at-Risk and conditional tail expectation. Consequently, an appropriate measurement of the contagion has a tremendous effect on the capital requirement of many financial institutions.

Keywords: Credit risk; Recovery risk; Contagion; Bond portfolio; Value-at-Risk (search for similar items in EconPapers)
JEL-codes: C51 C58 G01 G10 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (8)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:finlet:v:11:y:2014:i:2:p:131-139

DOI: 10.1016/j.frl.2013.07.005

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