Default correlation: An empirical investigation of a subprime lender |
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| Affiliation: | 1. Department of International Business, Southern Taiwan University of Science and Technology, No. 1, Nantai Street, Yukung Dist., Tainan 71005, Taiwan;2. Department of Business Administration, Da-Yeh University, No. 168, University Rd., Dacun, Changhua 51591, Taiwan;1. Department of Political and Economic Studies, University of Helsinki, Finland;2. HECER, Finland;3. Center of Excellence SAFE at Goethe University Frankfurt, Germany;4. Department of Economics, Hanken School of Economics, Helsinki, Finland;5. RiskLab Finland at Arcada University of Applied Sciences, Helsinki, Finland |
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| Abstract: | In recent years, subprime lending has grown substantially as an important sector of the credit markets. This paper is concerned with the risk management of subprime loan portfolios and the importance of default correlation in measuring that risk. Using a large portfolio of residential subprime loans from an anonymous subprime lender, we show that default correlation is substantial for this lender. In particular, the significance of default correlation increases as the internal credit rating declines. Our results suggest that lenders and regulators would be well served investing in the understanding of default correlation in subprime portfolios. |
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