Deriving Credit Portfolio Diversification Properties from Large Asset-Backed Security Pools

Wharton Financial Institutions Working Paper No. 05-43

84 Pages Posted: 23 Dec 2005

See all articles by Joseph R. Mason

Joseph R. Mason

Louisiana State University - Ourso School of Business; University of Pennsylvania - Wharton Financial Institutions Center

Eric James Higgins

Kansas State University - College of Business Administration

Date Written: December 2005

Abstract

The present analysis estimates Markowitz portfolio correlations for retail loan portfolios. The correlations are derived from almost $1 trillion of asset backed security pools originated by more than five hundred issuers between January 2000 and September 2003. Such a broad sample, comprised of several hundred thousand pool-month observations, provides a unique opportunity to infer asset correlation structures of commercial bank assets. Since the types of loans analyzed are rarely traded, Markowitz correlations are estimated from five different loan performance measures. The analysis demonstrates that the performance of many different loan credit types is weakly correlated, and is sometimes even negatively correlated. Hence, there is the potential to eliminate a significant amount of risk in diversified credit portfolios.

Suggested Citation

Mason, Joseph R. and Higgins, Eric James, Deriving Credit Portfolio Diversification Properties from Large Asset-Backed Security Pools (December 2005). Wharton Financial Institutions Working Paper No. 05-43, Available at SSRN: https://ssrn.com/abstract=871234 or http://dx.doi.org/10.2139/ssrn.871234

Joseph R. Mason (Contact Author)

Louisiana State University - Ourso School of Business

2900 Business Education Complex
Baton Rouge, LA 70803
United States
202-683-8909 (Phone)

University of Pennsylvania - Wharton Financial Institutions Center ( email )

3641 Locust Walk
Philadelphia, PA 19104-6218
United States

Eric James Higgins

Kansas State University - College of Business Administration ( email )

117 D Calvin Hall
Manhattan, KS 66506
United States
(785)-532-3936 (Phone)

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