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Application of the Bayesian approach in loss given default modelling

Author

Listed:
  • Aneta Ptak-Chmielewska

    (Warsaw School of Economics)

  • Paweł Kopciuszewski

    (Vistula University of Warsaw, ING Hubs Poland)

Abstract

In some credit portfolios the number of observed defaults is always very limited. This is particularly evident in the Loss Given Default (LGD) estimation based on the new definition of default (the new definition of default was introduced in European banks in recent years) where only a small sample of empirical data is observed. The basic proposed LGD model is based on splitting recoveries into two classes of recoveries: value close to 0 or close to 1. This paper addresses also the problem with unresolved cases using the Bayesian approach, which assumes a distribution of further recoveries for unresolved cases. The Bayesian approach is considered with a combination of two binary models. The modelling approach for LGD is illustrated on real data for a long time period for mortgage loans. The proposed methodology takes into account the specificity of LGD data for both bimodal LGD distribution and uncertainty about unresolved cases, which lead to reduce a model bias.

Suggested Citation

  • Aneta Ptak-Chmielewska & Paweł Kopciuszewski, 2023. "Application of the Bayesian approach in loss given default modelling," Bank i Kredyt, Narodowy Bank Polski, vol. 54(6), pages 625-650.
    • Handle: RePEc:nbp:nbpbik:v:54:y:2023:i:6:p:625-650
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    References listed on IDEAS

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    Cited by:

    1. Aneta Ptak-Chmielewska & Paweł Kopciuszewski, 2024. "Credit loss modelling using beta distribution in a Bayesian approach," Bank i Kredyt, Narodowy Bank Polski, vol. 55(3), pages 313-332.

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    More about this item

    Keywords

    small samples; LGD; Bayesian approach; logistic and linear regression; unresolved cases;
    All these keywords.

    JEL classification:

    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General

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