Uncovering PD/LGD liaisons

Francisco Sánchez, Roland Ordovàs, Elena Martínez, Manuel Vega
01 Jan 2008

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Understanding dependencies between the probability of default (PD) and loss given default (LGD) through their variation over time, based on the different phases of the economic cycle, is crucial to quantifying their impact on the calculation of credit risk capital. From a technical point of view, the assumption of two different models for PDs and LGDs, when there is a non-trivial correlation between the two, leads to biased estimates for the PD and LGD parameters, which if not considered could

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