Are credit ratings time-homogeneous and Markov?

Pedro Lencastre, Frank Raischel, Pedro G. Lind and Tim Rogers

Papers from arXiv.org

Abstract: We introduce a simple approach for testing the reliability of homogeneous generators and the Markov property of the stochastic processes underlying empirical time series of credit ratings. We analyze open access data provided by Moody's and show that the validity of these assumptions - existence of a homogeneous generator and Markovianity - is not always guaranteed. Our analysis is based on a comparison between empirical transition matrices aggregated over fixed time windows and candidate transition matrices generated from measurements taken over shorter periods. Ratings are widely used in credit risk, and are a key element in risk assessment; our results provide a tool for quantifying confidence in predictions extrapolated from these time series.

Date: 2014-03, Revised 2014-10
New Economics Papers: this item is included in nep-rmg
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