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Loss Coverage and Stress Testing Mortgage Portfolios: A Non-Parametric Approach
Company: Banco de Espana
Year Of Publication: 2007
Month Of Publication: March
Pages: 25
Download Count: 406
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Comment Num: 0
Language: EN
Source:
Who Can Read: Free
Date: 6-24-2007
Publisher: Administrator
Summary
In this paper we outline the development of a practical approach to simulating a credit loss distribution function andto implementing a stress test exercise. This approach focuses on what is currently one of the banks' key loanportfolios: the mortgage portfolio, in particular, the entire Spanish mortgage portfolio. Specifically, we firstdetermine, via regression model, the main factors that explain why households fail to meet their mortgage paymentcommitments. This allows us to consistently assign individual borrowers' PDs and to estimate a rating system for themortgage portfolio of the entire credit system. Then, we simulate the empirical distribution function of mortgage lossrates for a whole economic cycle using a Monte-Carlo resampling method, and compare the loss rates from thisfunction with those provided by the Basel II IRB formulas. Finally, we assess, by running a stress exercise, the abilityof banks to withstand certain adverse situations. The main result from this exercise is that, in general terms, Basel IIIRB regulatory loss coverage offers fairly adequate protection for banks. All in all, this paper shows the usefulnessand importance of stress and simulation tools for supervisory authorities to analyse and properly define banks' riskprofile and loss protection adequacy measures to account for possible future losses.
Author(s)
Rodriguez, Adolfo Sign in to follow this author
Trucharte, Carlos Sign in to follow this author
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