Retail Loans & Basel II: Using Portfolio Segmentation to Reduce Capital Requirements
ECRI Research Report No. 8
36 Pages Posted: 27 Feb 2007
Date Written: August 2006
This paper presents a new technique for grouping retail loans into homogenous risk pools, which adheres to the provisions of Basel II. We use recursive partitioning and test it on a data set of approximately 413,000 auto loans. By classifying loans according to selective predictors of default, we find that banks can achieve significant savings in terms of a lower regulatory capital requirement. Alternatively, this provides the opportunity to increase lending capacity.
Keywords: Basel II, retail portfolio, credit risk, classification algorithms, portfolio segmentation
JEL Classification: C14, C25, C53, G21, G28
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