Asset Correlations: A Literature Review and Analysis of the Impact of Dependent Loss Given Defaults
by Andrew Chernih of X-Act Consulting,
November 6, 2006
Abstract: The Basel II Accord outlines a general framework for determining regulatory capital requirements for credit risk portfolios. Different obligors usually operate in dependent socio-economic environments and these structural correlations are the main reason why regulatory capital is needed. Therefore, it is not surprising that an important component of the regulatory regime for capital is the asset correlation between obligors. Basel II has set a range for corporate asset correlations from 8 to 24%, the exact value depending on several individual firm characteristics.