Are Banks' Internal Risk Parameters Consistent? Evidence from Syndicated Loans

49 Pages Posted: 1 Sep 2012 Last revised: 18 Jun 2014

See all articles by Simon Firestone

Simon Firestone

Freddie Mac - Housing Analysis and Research

Marcelo Rezende

Board of Governors of the Federal Reserve System

Multiple version iconThere are 2 versions of this paper

Date Written: June 16, 2014

Abstract

Syndicated loans provide an exceptional opportunity to study differences in banks’ approaches to measuring risk because many of these loans are held by more than one bank. We study differences in banks’ estimates of risk parameters used to calculate regulatory capital requirements for syndicated loans. Using internal data from nine large U.S. banks, we find significant dispersion in the probability of default (PD) and loss given default (LGD) assigned by different banks to the same loans. Banks’ PDs differ substantially, but only a few set PDs systematically higher or lower than others in a manner that is statistically significant. However, many banks’ estimates of LGD differ from others in a systemic manner that is both statistically and economically significant. The differences in LGDs cause large differences in Basel II minimum regulatory capital. In addition, we find a negative relation between banks’ LGDs and their loan shares, suggesting that differences in risk parameters affect bank credit supply.

Keywords: Probability of Default, Loss Given Default, Bank Capital, Syndicated Loan

JEL Classification: G21, G28, G32

Suggested Citation

Firestone, Simon and Rezende, Marcelo, Are Banks' Internal Risk Parameters Consistent? Evidence from Syndicated Loans (June 16, 2014). Midwest Finance Association 2013 Annual Meeting Paper, Available at SSRN: https://ssrn.com/abstract=2139539 or http://dx.doi.org/10.2139/ssrn.2139539

Simon Firestone

Freddie Mac - Housing Analysis and Research ( email )

Mailstop A96
8250 Jones Branch Drive
McLean, VA 22102
United States

Marcelo Rezende (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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