Stressing of Migration Matrices for IFRS 9 and ICAAP Calculations

Jiří Witzany

No 2.001, FFA Working Papers from Prague University of Economics and Business

Abstract: Rating transition matrices have become a workhorse of the IFRS 9 expected credit loss and ICAAP stress test modelling. The standard method to stress a through-the-cycle transition matrix is based on a single factor Gaussian model with a correlation parameter that is usually estimated on the level of a product pool. The goal of the paper is to generalize the model allowing for more general distributional assumptions and to test empirically the sensitivity of the results with respect to these assumptions and different possible approaches to the correlation parameter estimation. We are not aware of any such empirical study in the literature. The results show that this dependence is very strong with the standard approach underestimating the results, as we argue, of a more precise calculation many times. Therefore, there is a significant model risk that needs to be taken into account in ICAAP/IFRS 9 implementation and dealt with in further research.

Keywords: ICAAP; IFRS 9 provisions; correlation; Probit model; Logit model (search for similar items in EconPapers)
JEL-codes: C51 G20 G28 (search for similar items in EconPapers)
Pages: 18 pages
Date: 2017-01-17, Revised 2020-02-21
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