A Coupled Markov Chain Approach to Credit Risk Modeling

David Wozabal and Ronald Hochreiter ()

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Abstract: We propose a Markov chain model for credit rating changes. We do not use any distributional assumptions on the asset values of the rated companies but directly model the rating transitions process. The parameters of the model are estimated by a maximum likelihood approach using historical rating transitions and heuristic global optimization techniques. We benchmark the model against a GLMM model in the context of bond portfolio risk management. The proposed model yields stronger dependencies and higher risks than the GLMM model. As a result, the risk optimal portfolios are more conservative than the decisions resulting from the benchmark model.

Date: 2009-11, Revised 2014-01
New Economics Papers: this item is included in nep-rmg
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Citations: View citations in EconPapers (7)

Published in Journal of Economic Dynamics and Control 36(3): 403-415. 2012

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Journal Article: A coupled Markov chain approach to credit risk modeling (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:0911.3802

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