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Approximating Capital Requirement Due to Name Credit Concentration Risk

Green, Christian and Lidberg, Pauline LU (2014) TMA820 20141
Department of Business Administration
Abstract
Since banks provide various forms of credit, they consequently expose the business as well as society to risks. Therefore, global banking regulations exist to ensure that banks keep enough capital for the risks they are taking. One such risk is name credit concentration risk, arising when exposures in a portfolio have a skew distribution across different counterparties. Regarding the treatment of this particular risk, Finansinspektionen gives guidance on how Swedish banks and financial institutions could approximate it. They do so by proposing two methodologies, one within a Standardised Approach and one within the more advanced Internal Ratings-Based (IRB) Approach. A comparison between the resulting capital requirements for... (More)
Since banks provide various forms of credit, they consequently expose the business as well as society to risks. Therefore, global banking regulations exist to ensure that banks keep enough capital for the risks they are taking. One such risk is name credit concentration risk, arising when exposures in a portfolio have a skew distribution across different counterparties. Regarding the treatment of this particular risk, Finansinspektionen gives guidance on how Swedish banks and financial institutions could approximate it. They do so by proposing two methodologies, one within a Standardised Approach and one within the more advanced Internal Ratings-Based (IRB) Approach. A comparison between the resulting capital requirements for Finansinspektionen’s two proposed methodologies do not publicly exist. Performing such a comparison for portfolios with different characteristics, including a third parameter, would add to previous research. The comparison would also provide Swedish banks and institutions with additional knowledge of the differences in resulting capital requirements when applying Finansinspektionen’s two proposed methodologies on their portfolios. Thus, the authors have compared these methodologies. The thesis is performed through a quantitative study of generated realistic portfolios and of Ikano Bank’s leasing portfolio, where two methodologies for approximating capital requirement for name concentration risk are applied on the portfolios. Theory used is the methodologies proposed by Finansinspektionen, i.e. the Standardised Approach and an IRB Approach; a Granularity Adjustment according to Michael Gordy and Eva Lütkebohmert. The major conclusion of the thesis is that the relationship between a portfolio’s large and small exposures in terms of assigned PDi is of great importance for how the two methodologies’ resulting capital requirements differ. To further clarify, it is this relationship that affects the difference in capital requirements between the two methodologies, rather than the actual levels of PDi for the big and small exposures. (Less)
Please use this url to cite or link to this publication:
author
Green, Christian and Lidberg, Pauline LU
supervisor
organization
alternative title
A Comparison of Two Methodologies, the Standardised Approach and A Selected IRB Approach; A Granularity Adjustment.
course
TMA820 20141
year
type
H2 - Master's Degree (Two Years)
subject
keywords
Granularity Adjustment, Capital Requirement, Name Concentration Risk, Credit Risk, Standardised Approach, Basel agreements
report number
268
ISSN
1651-0100
language
English
id
4457017
date added to LUP
2014-09-01 10:45:33
date last changed
2014-09-01 10:45:33
@misc{4457017,
  abstract     = {{Since banks provide various forms of credit, they consequently expose the business as well as society to risks. Therefore, global banking regulations exist to ensure that banks keep enough capital for the risks they are taking. One such risk is name credit concentration risk, arising when exposures in a portfolio have a skew distribution across different counterparties. Regarding the treatment of this particular risk, Finansinspektionen gives guidance on how Swedish banks and financial institutions could approximate it. They do so by proposing two methodologies, one within a Standardised Approach and one within the more advanced Internal Ratings-Based (IRB) Approach. A comparison between the resulting capital requirements for Finansinspektionen’s two proposed methodologies do not publicly exist. Performing such a comparison for portfolios with different characteristics, including a third parameter, would add to previous research. The comparison would also provide Swedish banks and institutions with additional knowledge of the differences in resulting capital requirements when applying Finansinspektionen’s two proposed methodologies on their portfolios. Thus, the authors have compared these methodologies. The thesis is performed through a quantitative study of generated realistic portfolios and of Ikano Bank’s leasing portfolio, where two methodologies for approximating capital requirement for name concentration risk are applied on the portfolios. Theory used is the methodologies proposed by Finansinspektionen, i.e. the Standardised Approach and an IRB Approach; a Granularity Adjustment according to Michael Gordy and Eva Lütkebohmert. The major conclusion of the thesis is that the relationship between a portfolio’s large and small exposures in terms of assigned PDi is of great importance for how the two methodologies’ resulting capital requirements differ. To further clarify, it is this relationship that affects the difference in capital requirements between the two methodologies, rather than the actual levels of PDi for the big and small exposures.}},
  author       = {{Green, Christian and Lidberg, Pauline}},
  issn         = {{1651-0100}},
  language     = {{eng}},
  note         = {{Student Paper}},
  title        = {{Approximating Capital Requirement Due to Name Credit Concentration Risk}},
  year         = {{2014}},
}