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Research papers

Listed below are examples of our extensive catalogue of research papers in risk control. Click on the titles to view or download documents in PDF format.


Paper 14 Dynamic Default Rates
Robert Lamb and William Perraudin
May 2008

This paper develops new, dynamic and conditional versions of Vasicek's widely used single factor, default rate distribution. We employ our new class of distributions in modeling US bank loan losses. We analyze the implications for risk, capital, diversification and cyclical effects in loan portfolios and investigate how observed macroeconomic factors such as shocks to industrial production and unemployment affect the distribution of credit losses. A strength of our approach is the simplicity with which one may incorporate rich patterns of auto-correlation and dependence on observable factors into default rate distributions.


Paper 13 Determinants of Asset-Backed Security Prices in Crisis Periods
William Perraudin and Shi Wu
May 2008

This paper investigates the different factors that contribute to the cross-sectional pattern of spreads in Asset-Backed Security (ABS) prices in times of crisis. The periods include the crisis in the Manufactured Housing sector in 2004 and the turmoil in mortgage backed ABS in 2007. The cross section of prices for a given rating category appear to be poorly explained by liquidity and risk and there is evidence of a collapse in market confidence in the ratings agency classifications.


Paper 12 Dynamic Pricing of Synthetic Collateralized Debt Obligations
Robert Lamb, William Perraudin and Astrid Van Landschoot
March 2008

This paper applies a new class of dynamic credit loss rate models to the pricing of benchmark synthetic Collateralized Debt Obligations (CDOs). Our approach builds directly on the static, industry-standard, pricing approach to credit structured products based on Vasicek (1991). We generalize the Vasicek model by allowing risk factors to be driven by arbitrarily complex auto-regressive processes. We show how to benchmark our model using CDX prices, and demonstrate that it can consistently and accurately fit the prices of multiple tranches with different subordination levels and tenors. Among other interesting results, we find that changes in tranche spreads are driven less by alterations in the market's estimate of default correlation (which is stable over time) and more by punctuations in market perceptions of the persistence of credit shocks, i.e., the persistence of the credit cycle.


Paper 11 Ratings-Based Pricing and Stochastic Spreads
Mariam Harfush-Pardo, Robert Lamb and William Perraudin
September 2007

This paper generalizes a class of ratings-based credit derivative models proposed by Jarrow, Lando, and Turnbull (1997) and Kijima and Komorib-ayashi (1998) to allow for stochastic spreads and then applies this model to analyze empirically the pricing of large cross sections of corporate bonds and Asset Backed Securities. We show that measuring risk in credit portfolios is highly sensitive to the inclusion of randomness in spreads.

Paper 10 Securitizations in Basel II
William Perraudin
April 2006

This article describes the Basel II capital rules for securitisation exposures, explaining (i) the considerations that influenced regulators' decisions, (ii) the approaches for calculating capital and how banks will apply them, (iii) the financial engineering that underlies the different approaches and (iv) the likely impact of the new system.


Paper 9 Hedging and Asset Allocation for Structured Products
Robert Lamb, Vladislav Peretyatkin and William Perraudin
December 2005

This paper presents techniques for hedging structured products in incomplete markets. Under actual distributions, we simulate correlated ratings histories for pool exposures up to the hedging horizon and then employ conditional pricing functions estimated from a preliminary Monte Carlo based on risk adjusted distributions. The approach is very flexible. We apply it to a realistic multi-period CDO transaction.


Paper 8 Judgmental Versus Quantitative Credit Risk Measures for Sovereigns
Yen-Ting Hu, Ruediger Kiesel, William Perraudin and Gerhard Stahl
August 2005

This paper compares the informational content of judgmentally determined sovereign ratings produced by a private sector bank and by the rating agency Standard and Poor's, with ratings derived from econometric analysis of sovereign default. We show that downgrades in both the bank and the agency ratings may be predicted using quantitative ratings whereas upgrades in the quantitative ratings appear to be predictable using judgmental ratings.


Paper 7 The Dependence of Recovery Rates and Defaults
Yen-Ting Hu and William Perraudin
This version: February 2006 >

In standard ratings-based models for analysing credit portfolios and pricing credit derivatives, it is assumed that defaults and recoveries are statistically independent. This paper presents evidence that aggregate quarterly default rates and recovery rates are, in fact, negatively correlated. Using Extreme Value Theory techniques, we show that the dependence affects the tail behaviour of total credit loss distributions and leads to higher VaR measures.


Paper 6 Capital for Structured Products
Vladislav Peretyatkin and William Perraudin
Birkbeck College     Bank of England
This version: June 2004

Structured products are complex instruments the payoffs on which depend on the performance of pools of correlated underlying assets and that possess a tranche structure, i.e., a set of rules that prescribe how cash flows on the underlying pool are split between the holders of several classes of claim of different seniorities. This paper describes a methodology we have developed for calculating ratings-based capital charges for structured products like structured exposures. The model we employ is a generalization of industry-standard, ratings-based credit portfolio models.


Paper 5 How Risky are Structured Exposures Compared to Corporate Bonds?
Evidence from Bond and ABS Returns
William Perraudin and Astrid Van Landschoot
May 2004

This paper compares the risk of structured exposures with that of defaultable corporate bonds with the same agency ratings. Risk is defined in a variety of ways including return volatility, Value at Risk, Expected Shortfall and betas with credit portfolios.


Paper 4 Estimation of Credit Spread Correlations
William Perraudin, Marco Polenghi and Alex Taylor
January 2004

This paper calculates long-holding period correlations for emerging market sovereign spreads and compares these with the correlations of equity market indices for the same countries.


Paper 3 The Estimation of Transition Matrices for Sovereign Credit Ratings
Yen-Ting Hu, Ruediger Kiesel and William Perraudin
January 2002

Rating transition matrices for sovereigns are an important input to risk management of portfolios of emerging market credit exposures. They are widely used both in credit portfolio management and to calculate future loss distributions for pricing purposes. However, few sovereigns and almost no low credit quality sovereigns have ratings histories longer than a decade, so estimating such matrices is difficult. This paper shows how one may combine information from sovereign defaults observed over a longer period and a broader set of countries to derive estimates of sovereign transition matrices.


Paper 2 Regulatory and 'economic' solvency standards for internationally active banks
Patricia Jackson, William Perraudin and Victoria Saporta
January 2002

One of the most important policy issues for financial authorities is to decide at what level average capital charges should be set. The decision may alternatively be expressed as the choice of an appropriate survival probability for representative banks over a horizon such as a year, often termed a 'solvency standard'. This article sheds light on the solvency standards implied by current and possible future G10 bank regulation and on the 'economic solvency standard' that banks choose themselves by their own capital setting decisions. In particular, we employ a credit risk model to show that the survival probability implied by the 1988 Basel Accord is between 99.0% and 99.9%. We then demonstrate that if a new Basel Accord were calibrated to such a standard, it would not represent a binding constraint on banks' current operations since most banks employ a solvency standard significantly higher than 99.9%. To show this, we employ a statistical analysis of bank ratings adjusted for the impact of official or other support as well as credit risk model calculations. Lastly, we advance a possible explanation for the conservative capital choices made by banks by showing that swap volumes are highly correlated with credit quality for given bank size. This suggests that banks' access to important credit markets like the swaps markets may provide a significant discipline in the choice of solvency standard.


Paper 1 Estimating Volatility for Long Holding Periods
Ruediger Kiesel, William Perraudin and Alex Taylor
2000

This note describes the construction of a model-free volatility estimator to investigate the long horizon volatility of various interest rate time series and study the implications for short rate models