Application of Vine Copulas to Credit Portfolio Risk Modeling

  • Geidosch M
  • Fischer M
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Abstract

In this paper, we demonstrate the superiority of vine copulas over conventional copulas when modeling the dependence structure of a credit portfolio. We show statistical and economic implications of replacing conventional copulas by vine copulas for a subportfolio of the Euro Stoxx 50 and the S&P 500 companies, respectively. Our study includes D-vines and R-vines where the bivariate building blocks are chosen from the Gaussian, the t and the Clayton family. Our findings are (i) the conventional Gauss copula is deficient in modeling the dependence structure of a credit portfolio and economic capital is seriously underestimated; (ii) D-vine structures offer a better statistical fit to the data than classical copulas, but underestimate economic capital compared to R-vines; (iii) when mixing different copula families in an R-vine structure, the best statistical fit to the data can be achieved which corresponds to the most reliable estimate for economic capital.

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APA

Geidosch, M., & Fischer, M. (2016). Application of Vine Copulas to Credit Portfolio Risk Modeling. Journal of Risk and Financial Management, 9(2), 4. https://doi.org/10.3390/jrfm9020004

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