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Estimating a Financial Distress Rating System for Spanish Firms with a Simple Hazard Model

by Christian E. Castro of the Universitat de les Illes Balears

June 11, 2008

Abstract: Under the Basel II Internal Rating Based (IRB) approach banks should accurately discriminate among different grades of obligors in their credit portfolios taking into account not only the obligor-specific characteristics but also their sector and macro-economic environment. The final objective is the assignment of a credit rating to each of their exposures based upon a set of estimated probabilities of default. With this purpose in mind, the industry has been gradually moving to more advanced techniques in financial distress prediction, with survival models playing a prominent role in the last few years.

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