An Asset Protection Scheme for Banks Exposed to Troubled Loan Portfolios

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We examine a specific portfolio credit derivative, an Asset Protection Scheme (APS), and its applicability as a tool to restore financial stability and reduce asymmetric information. As opposed to most governmental bailout packages implemented across the world recently, the APS can be a fair valued contract with an appropriate structure of incentives. Within the structural credit risk modeling framework, we apply two alternative multivariate default risk models; the classical Gaussian Merton model and a model based on Normal Inverse Gaussian (NIG) processes. Exchanging the normal factors in the Gaussian model with NIG factors adds more flexibility to the distribution of asset returns while retaining a convenient correlation structure. Using a unique data set on annual, farm level data from 1996 to 2009, we consider the Danish agricultural sector as a case study and price an APS on an agricultural loan portfolio. Moreover, we compute the economic capital for this loan portfolio with and without an APS.

Original languageEnglish
Place of publicationAarhus
PublisherAarhus School of Business, Aarhus University, Department of Business Studies
Publication statusPublished - 2010

    Research areas

  • Asset Protection Scheme, Bank regulation, Credit risk, Portfolio credit derivatives, Normal Inverse Gaussian, Asymmetric information

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ID: 32383449