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Capital for concentrated credit portfolios

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  • Paul H. Kupiec

    (American Enterprise Institute)

Abstract

Most credit portfolios contain obligor concentration risk and yet international bank regulatory capital rules and many industry models assume perfect diversification. Multiple methods are available to calculate the approximate capital needs of a concentrated credit portfolio, but many of these involve advanced mathematical arguments, substantial computation time, and fail to clearly identify the most important credits causing concentration risk. In this article, I illustrate three approaches for calculating loss distributions and value-at-risk capital requirements. Of these, the large exposure approach proposed by Kupiec (2015) is especially easy to implement. It produces accurate estimates of the economic capital required for a concentrated portfolio and immediately identifies the obligors most responsible for generating concentration risk.

Suggested Citation

  • Paul H. Kupiec, 2015. "Capital for concentrated credit portfolios," AEI Economics Working Papers 841153, American Enterprise Institute.
    • Handle: RePEc:aei:rpaper:841153
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    References listed on IDEAS

    as
    1. Paul H. Kupiec, 2015. "Portfolio diversification in concentrated bond and loan portfolios," AEI Economics Working Papers 837343, American Enterprise Institute.
    2. Gordy, Michael B. & Marrone, James, 2012. "Granularity adjustment for mark-to-market credit risk models," Journal of Banking & Finance, Elsevier, vol. 36(7), pages 1896-1910.
    3. Gordy, Michael B., 2003. "A risk-factor model foundation for ratings-based bank capital rules," Journal of Financial Intermediation, Elsevier, vol. 12(3), pages 199-232, July.
    4. M. B. Gordy & E. Lutkebohmert, 2013. "Granularity Adjustment for Regulatory Capital Assessment," International Journal of Central Banking, International Journal of Central Banking, vol. 9(3), pages 38-77, September.
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    More about this item

    Keywords

    capital requirements; Basel Comittee on Banking Supervision;

    JEL classification:

    • A - General Economics and Teaching

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