Picking the most attractive model
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Picking the most attractive model

Euromoney takes a look at three publicly available models: PortfolioManager, CreditMetrics, and CreditRisk+.

Author: Anja Helk Value at risk (VAR), as an established measurement of market risk, is now revealing its virtues to credit risk management. VAR indicates the maximum likely loss over a specifIc period within a given confidence level, and is increasingly used as a tool for credit risk monitoring, to perform risk/return analysis of credit portfolios and for capital allocation decisions. Importantly, VAR measures economic capital, which is thought to replace the less flexible regulatory capital requirements that are currently in place.

Euromoney takes a look at three publicly available models and the way they produce a measure of credit risk: PortfolioManager (published by KMV, 1993), CreditMetrics (published by RiskMetrics, 1997), and CreditRisk+ (published by CSFB, 1997).

CreditMetrics assesses individual and portfolio credit VAR on a mark-to-market basis. The credit VAR stems from changes in credit quality caused by upgrades, downgrades, defaults, and portfolio concentration.

Methodology: CreditMetrics establishes an exposure profile of each instrument. It then computes the volatility in value for each instrument by rating migration and default risk. The likelihood of default and rating changes is specified in a transition matrix.

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