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- 15 November 2022
- WORKING PAPER SERIES - No. 2749Details
- We test whether a simple measure of corporate insolvency based on equity return volatility -and denoted as Distance to Insolvency (DI) - delivers better prediction of corporate defaults than the widely-used Expected Default Frequency (EDF) measure computed by Moody’s. We look at the predictive power that current DIs and EDFs have for future defaults, both at a firm-level and at an aggregate level. At the granular level, both DIs and EDFs anticipate corporate defaults, but the DI contains information over and above the EDF, especially at longer forecasting horizons. At an aggregate level the DI shows superior forecasting power compared to the EDF, for horizons between 3 and 12 months. We illustrate the predictive power of the DI measure for the aggregate default rate by examining how corporate defaults would have evolved during the period marked by the spreading of the COVID-19 pandemic if DIs had not increased (so making future defaults less likely) also owing to the Eurosystem’s Public Emergency Purchase Program (PEPP).
- JEL Code
- C53 : Mathematical and Quantitative Methods→Econometric Modeling→Forecasting and Prediction Methods, Simulation Methods
C58 : Mathematical and Quantitative Methods→Econometric Modeling→Financial Econometrics
G33 : Financial Economics→Corporate Finance and Governance→Bankruptcy, Liquidation
- 18 November 2019
- FINANCIAL STABILITY REVIEW - BOXFinancial Stability Review Issue 2, 2019Details
- Over the past decade, banks have been called to account for their past misconduct. The redress for misconduct has reduced the net income of euro area banks by one-third since the global financial crisis. Analysis further suggests that misconduct costs have had a negative impact on major euro area banks’ one-year buy-and-hold stock returns, after controlling for other bank-specific variables as well as bank and time fixed effects. This relationship appears to be strongest in the immediate aftermath of the global financial crisis, which might indicate greater investor concern about misconduct costs during times of stress.
- JEL Code
- G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
G38 : Financial Economics→Corporate Finance and Governance→Government Policy and Regulation
K42 : Law and Economics→Legal Procedure, the Legal System, and Illegal Behavior→Illegal Behavior and the Enforcement of Law
- 29 May 2019
- FINANCIAL STABILITY REVIEW - BOXFinancial Stability Review Issue 1, 2019Details
- Despite criticism in the aftermath of the global financial crisis, the ratings assigned by the major credit rating agencies continue to play a key role for fixed income investors. Credit ratings can be considered as an overall assessment of the creditworthiness of non-financial and financial corporates. As acquiring information can be costly, they are particularly relevant for the investment decisions of fixed income investors. The classification of issuers and securities into investment grade and high yield strongly affects institutional demand and might amplify the cyclicality of banks’ asset prices and funding costs during a downturn. Against this background, this box examines trends in credit ratings of listed banks across major advanced economies with a special focus on the euro area and discusses potential financial stability implications.