Modeling Structural Default Risk

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Modeling Structural Default Risk

  1. 1. Modeling structural default risk for allocating deposits to money market counterparties Basis: Agusto Ratings, Fitch Weights, Edward Altman’s “Z-score” modelparameters for financial institutions, Merton/ Moody’s KMV Model(time) All ratings 2009 for 2010 placements
  2. 2. Demonstration of methodology• each plot covers the period of prior to intervention announcements by the CBN:• assigned z-scores were trended for the period to reflect firm and market changes• these bear a simple rating system:• Z < 1.8 = “default”,• 1.8< Z <3.0 “troubled credit”• ….> 3.0 “Okay”
  3. 3. Basis of allocation to counterparties… After data entry on the internal spread; All inputs are entered from each firm’s financials and transformed into comprehensive weights before assigning a score to allocate permissible weights. Qualitative factor’s may change the final output G.Rev/Factor WC/TA RE/TA EBIT/TA MVE/TL T.Assets Z-Score % Allocation Year EndMultiple 1.20 1.40 3.30 0.60 1.00 ACCESS 0.93 0.05 0.05 106.21 0.03 6.51 4.20% 31-Mar-08 AFRIBANK 0.45 0.02 0.04 64.68 0.04 3.96 2.55% 29-Feb-08 PLATINUM 1.06 0.08 0.07 24.64 0.05 1.65 1.06% 29-Feb-08 DIAMONDBNK 0.73 0.07 0.05 267.34 0.05 16.16 10.43% 31-Dec-08 FIDELITYBK 1.09 0.07 0.07 192.75 0.05 11.73 7.57% 31-Dec-08 FIRSTINLND 0.68 0.08 0.10 45.92 0.08 2.89 1.86% 29-Feb-08 FIRSTBANK 0.61 0.09 0.12 209.18 0.07 12.68 8.19% 02-Jun-08
  4. 4. Jan 2008-July 2010: the black lines represent computed z-scores, the coloured lines reflect forecast levels Z<1.8 = “default”, 1.8<Z<3.0 “troubled credit”….>3.0 “Okay”
  5. 5. Jan 2008-July 2010: the black lines represent computed z-scores, the coloured lines reflect forecast levels Z<1.8 = “default”, 1.8<Z<3.0 “troubled credit”….>3.0 “Okay”
  6. 6. Jan 2008-July 2010: the black lines represent computed z-scores, the coloured lines reflect forecast levels Z<1.8 = “default”, 1.8<Z<3.0 “troubled credit”….>3.0 “Okay” Below required score …future looked manageable
  7. 7. Jan 2008-July 2010: the black lines represent computed z-scores, the coloured lines reflect forecast levels Z<1.8 = “default”, 1.8<Z<3.0 “troubled credit”….>3.0 “Okay” Clear sign of default
  8. 8. The industry average Z-scored over the period
  9. 9. Allocation limits are based on these screens to mitigate counterparty risk and form basis for negotiation with deposit placement lines
  10. 10. Resulting deposit placement limits… and tenures

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