Bank Insolvency Risk and Z-Score Measures: Caveats and Best Practice

35 Pages Posted: 5 Jan 2017 Last revised: 27 Jul 2018

See all articles by Vincent Bouvatier

Vincent Bouvatier

University Paris-Est Créteil (UPEC) - ERUDITE

Laetitia Lepetit

University of Limoges - Laboratoire d'Analyse et de Prospectives Économiques (LAPE)

Pierre-Nicholas Rehault

Université de Limoges, LAPE

Frank Strobel

University of Birmingham - Department of Economics

Date Written: July 18, 2018

Abstract

We highlight caveats arising in the application of traditional ROA-based Z-scores for the measurement of bank insolvency risk, develop alternative Z-score measures to resolve these issues, and make recommendations for best practice for the US/Europe based on the experience of the financial crisis of 2007-2008. Using a probabilistic approach (i) our novel regulatory capital Z-score dominates traditional Z-score measures for both US/Europe; (ii) Z-scores computed with exponentially weighted moments dominate those with moving moments for the US sample, but not for Europe. For both US/Europe, using a multivariate logit approach (i) allows computation of augmented Z-scores that provide probabilities of distress that better discriminate between distressed/surviving banks than the probabilistic approach; (ii) suggests that the ROA-based Z-score using current values of the capital-asset ratio is best, calculated either with moving or exponentially weighted moments.

Keywords: Z-score; bank; insolvency risk; risk measure

JEL Classification: G21, G28, G32, G33

Suggested Citation

Bouvatier, Vincent and Lepetit, Laetitia and Rehault, Pierre-Nicholas and Strobel, Frank, Bank Insolvency Risk and Z-Score Measures: Caveats and Best Practice (July 18, 2018). Available at SSRN: https://ssrn.com/abstract=2892672 or http://dx.doi.org/10.2139/ssrn.2892672

Vincent Bouvatier

University Paris-Est Créteil (UPEC) - ERUDITE ( email )

Mail des Mèches
61 avenue du Général de Gaulle
Créteil Cedex, 94010
France

Laetitia Lepetit

University of Limoges - Laboratoire d'Analyse et de Prospectives Économiques (LAPE) ( email )

5 rue Felix Eboue
BP 3127
Limoges Cedex 1, 87031
France
+33555149213 (Phone)

HOME PAGE: http://www.unilim.fr/lape/

Pierre-Nicholas Rehault

Université de Limoges, LAPE ( email )

5 rue Félix Eboué BP3127
LIMOGES, 87031
France

Frank Strobel (Contact Author)

University of Birmingham - Department of Economics ( email )

Economics Department
Birmingham, B15 2TT
United Kingdom

HOME PAGE: http://www.economics.bham.ac.uk

Register to save articles to
your library

Register

Paper statistics

Downloads
291
Abstract Views
1,057
rank
106,657
PlumX Metrics