Assessing the Validity of Basel II Models in Measuring Risk of Credit Portfolios

Leonid V Philosophov

Contents
1.

Development and Validation of Key Estimates for Capital Models

2.

Explaining the Correlation in Basel II: Derivation and Evaluation

3.

Explaining the Credit Risk Elements in Basel II

4.

Loss Given Default and Recovery Risk: From Basel II Standards to Effective Risk Management Tools

5.

Assessing the Validity of Basel II Models in Measuring Risk of Credit Portfolios

6.

Measuring Counterparty Credit Risk for Trading Products under Basel II

7.

Implementation of an IRB-Compliant Rating System

8.

Stress Tests of Banks’ Regulatory Capital Adequacy: Application to Tier 1 Capital and to Pillar 2 Stress Tests

9.

Advanced Credit Model Performance Testing to Meet Basel Requirements: How Things Have Changed!

10.

Designing and Implementing a Basel II Compliant PIT–TTC Ratings Framework

11.

Basel II in the Light of Moody’s KMV Evidence

12.

Basel II Capital Adequacy Rules for Retail Exposures

13.

IRB-Compliant Models in Retail Banking

14.

Basel II Capital Adequacy Rules for Securitisations

15.

Regulatory Priorities and Expectations in the Implementation of the IRB Approach

16.

Market Discipline and Appropriate Disclosure in Basel II

17.

Validation of Banks’ Internal Rating Systems – A Supervisory Perspective

18.

Rebalancing the Three Pillars of Basel II

19.

Implementing a Basel II Scenario-Based AMA for Operational Risk

20.

Loss Distribution Approach in Practice

21.

An Operational Risk Rating Model Approach to Better Measurement and Management of Operational Risk

22.

Constructing an Operational Event Database

23.

Insurance and Operational Risk

In June 2004, the Basel Committee on Banking Supervision (BCBS) published the document entitled “International Convergence of Capital Measurement and Capital Standards”, also known as the New Basel Capital Accord or Basel II. The document establishes the new framework for the assessment of bank capital adequacy with strong emphasis on improving banks’ capabilities to assess and manage risks. Basel II will be implemented in OECD countries by the end of 2006 and, its most complex parts by the end of 2007.

A key element of Basel II consists of calculating a bank’s risk-weighted assets, which depend on probabilistic assessment of marginal losses that the bank can bear due to market, credit and operational risks.

Principal attention of Basel II is focused on credit risk. The proposed methodologies are the standardised approach, based on external credit ratings of borrowers, and the internal ratings-based (IRB) approach with both its foundation and advanced versions. Both versions suppose preliminary determination of four key inputs to the model, which estimates required capital and risk-weighted assets. Those inputs are: probability of borrower’s default within one year (PD); loss

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