Note available here.
This note presents bank default probabilities in the Covid-19 crisis in the form of regional indices for North America, Europe, Africa, Asia & Oceania, Latin America & Caribbean and Middle East.
The indices are based on individual bank default probabilities for a large number of banks worldwide. These are estimated using an equity-based model in which the bank’s equity market capitalisation divided by total debt resembles a perpetual American call option. Using this approach, we estimate the probability of default for a given horizon (say five years) as the probability that the bank’s asset to debt ration crosses a threshold before the horizon in question.
The statistical implementation is performed rigorously using Maximum Likelihood techniques. (Equity divided by debt is modelled as a function of the asset to debt ratio. The likelihood is related to that of a bivariate geometric Brownian motion in which the first element is absorbed as a barrier.)
We focus on how the credit quality of banks for particular regions has changed since the onset of the crisis. From the indices, one may examine how much the major deterioration in bank credit quality that occurred in Q2 2020 has persisted in different regions in Q2 and early Q3 2020.
Results also appear on our interactive Covid-19 dashboard. Access it here.