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Classical and quantum computing methods for estimating loan-level risk distributions

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  • Joseph L. Breeden
  • Yevgeniya Leonova

Abstract

Understanding the risk distribution for a single loan due to modelling and macroeconomic uncertainty could enable true loan-level pricing. To implement such analysis, rapid real-time methods are required. This article develops a Monte Carlo method for estimating the loss distribution on classical computers. For this analysis, multihorizon survival models incorporating the competing risks of default and pay-off were created on Freddie Mac data. The Monte Carlo simulation results fit well to a Lognormal distribution. Knowing in advance that a lognormal distribution is a reliable fit means that only tens of Monte Carlo simulations are needed to estimate tail risk in a single account forecast. We also explored the feasibility of using quantum computers that may be available in the near future to perform the calculations. Leveraging previous quantum algorithms for value-at-risk estimation, we show that a simplified version of the problem has potential for significant speed enhancement, but the full competing risks approach will require additional quantum algorithm development to be feasible.

Suggested Citation

  • Joseph L. Breeden & Yevgeniya Leonova, 2023. "Classical and quantum computing methods for estimating loan-level risk distributions," Journal of the Operational Research Society, Taylor & Francis Journals, vol. 74(7), pages 1800-1814, July.
    • Handle: RePEc:taf:tjorxx:v:74:y:2023:i:7:p:1800-1814
    DOI: 10.1080/01605682.2022.2115415
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