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Assessing the risk-return trade-off in loan portfolios

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  • Mencía, Javier

Abstract

This paper proposes a methodology to analyse the risk and return of large loan portfolios in a joint setting. I propose a tractable model to obtain the distribution of loan returns from observed interest rates and default frequencies. I follow a sectoral approach that captures the heterogeneous cyclical features of different kinds of loans and yields moments in closed form. I investigate the validity of mean–variance analysis with a value at risk constraint and study its relationship with utility maximisation. Finally, I study the efficiency of corporate and household loan portfolios in an empirical application to the Spanish banking system.

Suggested Citation

  • Mencía, Javier, 2012. "Assessing the risk-return trade-off in loan portfolios," Journal of Banking & Finance, Elsevier, vol. 36(6), pages 1665-1677.
    • Handle: RePEc:eee:jbfina:v:36:y:2012:i:6:p:1665-1677
    DOI: 10.1016/j.jbankfin.2012.01.007
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    Cited by:

    1. Justin A. Sirignano & Gerry Tsoukalas & Kay Giesecke, 2016. "Large-Scale Loan Portfolio Selection," Operations Research, INFORMS, vol. 64(6), pages 1239-1255, December.
    2. Deb Narayan Barik & Siddhartha P. Chakrabarty, 2022. "Does Limited Liability Reduce Leveraged Risk?: The Case of Loan Portfolio Management," JRFM, MDPI, vol. 15(11), pages 1-15, November.
    3. Krivorotov, George, 2023. "Machine learning-based profit modeling for credit card underwriting - implications for credit risk," Journal of Banking & Finance, Elsevier, vol. 149(C).

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    More about this item

    Keywords

    Credit risk; Multivariate distribution; Probability of default; Asset pricing; Risk aversion;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty

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