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June 2008 issue
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Brissimis, Magginas
Jondeau, Sahuc
Nakov
Tarashev, Zhu
Rosa, Verga
Brazier, Harrison, King, Yates
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Specification and Calibration Errors in Measures of Portfolio Credit Risk: The Case of the ASRF Model

by Nikola Tarashev and Haibin Zhu
Monetary and Economic Department, Bank for International Settlements

Abstract

This paper focuses on the asymptotic single-risk-factor (ASRF) model in order to analyze the impact of specification and calibration errors on popular measures of portfolio credit risk. Violations of key assumptions of this model are found to be virtually inconsequential, especially for large, welldiversified portfolios. By contrast, flaws in the calibrated interdependence of credit risk across exposures, caused by plausible small-sample estimation errors or rule-of-thumb values of asset return correlations, can lead to significant inaccuracies in measures of portfolio credit risk. Similar inaccuracies arise under standard assumptions regarding the tails of the distribution of asset returns.

JEL Codes: G21, G28, G13, C15.

 
Full article (PDF, 45 pages 374 kb)