Measuring Credit Spread Risk
24 Pages Posted: 26 Feb 2008
Date Written: 22 2002, 10
It is widely known that the small but looming possibility of defaultrenders the expected return distribution for financial productscontaining credit risk to be highly skewed and fat tailed. In thispaper we apply recent techniques developed for incorporating theadditional risk faced by changes in swap spreads. Using data from theUS, UK, Germany, and Japan, we find that the risk faced from largespread widenings and tightenings is grossly underestimated. Estimationof swap spread risk is dramatically improved when the severity of thefat tails is measured and incorporated into current estimationtechniques.
Keywords: Market Risk, value-at-risk, extreme Value theory, parametric distributions, backtesting
JEL Classification: M, M41, G3, G24
Suggested Citation: Suggested Citation