MBA PROGRAMME

SCHOOL OF BUSINESS AND MANAGEMENT

CHRIST (DEEMED TO BE UNIVERSITY), BANGALORE

CIA IIIB

TITLE: RESEARCH ARTICLE REVIEW

Submission date 15th January 2022

Assignment submitted in partial fulfilment of the requirements for the degree of

Master of Business Administration

Under the Guidance of

Dr. P. Sreelakshmi

Submitted By

RESHMA MENON

2027153

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 Declaration

I hereby declare that the Research Article Review report has been undertaken by me for the
award of Master of Business Administration degree. I have completed this report under the
guidance of Dr P Sreelakshmi.

I also declare that this article review is my original work and has not been submitted for the
award of any Degree, Diploma, Associateship, Fellowship or any other title, in CHRIST
(Deemed to be University) or in any other university.

Place: Bengaluru ______Signature_____________

Date: 15/01/2022 Reshma Menon
2027153

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Contents
Summary................................................................................................................................................ 1
1. Multivariate credit risk model ..................................................................................................... 1
2. Estimation method for the model ................................................................................................ 2
3. Insights into insurance and banking linkages.............................................................................. 2
Conclusion ............................................................................................................................................. 2
Future Research .................................................................................................................................... 3
References .............................................................................................................................................. 4

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 Article Details
Credit and Systemic Risks in the Financial Services Sector: Evidence
Name
From the 2008 Global Crisis
Journal Journal of Risk and Insurance
Year 2017
ABDC Rating A

Summary

The study proposes a model that will capture firm-specific credit risk and may serve as a building
block to construct a systemic risk measure for both the banking and insurance sectors—using weekly
data of credit default swap premiums of 35 financial firms, the paper analyses the credit risk of each
of these companies and statistical linkages, putting emphasis on the 2005 to 2012 period.

Credit Default Swaps represent one of the most widely traded credit derivatives on the market today.
CDS, like all derivatives, derive its value from the underlying asset's price changes. The credit rating
of the reference entity is one factor that influences CDS valuation. This reflects the fact that a major
portion of the CDS price or spread theoretically represents a firm's pure credit risk. (Jacobs,
Karagozoglu, & Peluso, 2010).

Hence, CDS premiums contain forward-looking information and are frequently updated by market
participants as the information becomes available. Accordingly, they are more appropriate to detect
sudden changes in solvency or the occurrence of crises. Considering that the CDS premium is directly
linked to the credit quality of the bond issuer, it is expected to reflect an adequate measure of credit
risk.

The paper focuses on three major determinants of financial crises, namely, the roles of leverage,
losses and linkages. The contributions of the paper are threefold:

1. Multivariate credit risk model

The model considers firm-specific parameters such as leverage and average premiums.
Findings: AIG, Lincoln National, and Washington Mutual have the largest average premiums,
reaching maximum values of 3,336.2 basis points (bps), 2,695.5 bps, and 5,207.8 bps for 5-
year tenors, respectively. During the sample period, the market considered AIG, Lincoln
National, and Washington Mutual the riskiest firms. This is consistent with the near-collapse
of AIG, Lincoln National's stock drop, and the failure of Washington Mutual, which was the
largest commercial bank failure in American history

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 2. Estimation method for the model
Estimation of the model's parameters is a crucial step to measure both credit and systemic
risks adequately. Indeed, as defaults are rare events, a lack of direct observations brings an
extra challenge when firm-specific credit risk needs to be estimated
Findings: Before the crisis, the expected loss of the insurance sector, given that the 99% VaR
has been reached, is estimated at $23,846 billion, which corresponds to 0.9% of the total
liabilities across the 35 firms. During the crisis, the conditional expected loss rose to $113,959
billion, or 4.0% of the total liabilities. For the banking subsector, although the expected losses
above the 99% VaR are larger, the pre-crisis proportion of the total losses is about the same
when compared to the insurers' losses. However, during the crisis and its aftermath, the
systemic risk measure of the banking subsector is more important than the one of the
insurance subsector.

3. Insights into insurance and banking linkages

There is a unidirectional causal effect wherein the banking sector's systemic risk affect the
insurance sector, indicating that banks have a much more important role in the transmission of
shock.

Conclusion

• The model provides a framework that reacts quickly to new information and is well adapted
to measure firm-specific credit risk, even during financial turmoil.
• It suggests the presence of a strong linkage among many financial institutions under the study
during the global financial crisis.
• Finally, the empirical study presented in this article finds supportive evidence of increased
systemic risk within the financial services sector during the last global crisis.
• There is a unidirectional causal effect from banks to insurers; however, the opposite
relationship (from insurers to banks) is not statistically significant.

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We see the relevance of this model in the recent global recession caused by the COVID-19 pandemic:

Source: S&P Research

Asia-Pacific bank nonperforming assets (NPAs) rose by US$600 billion, and the resulting
credit losses increased by US$300 billion due to changes in the oil prices and market
volatility (S&P Global Research, 2020)
Government response by way of policy amendments, liquidity injections, provision of loans
to impacted regions and industries and policy rate cuts did not prevent the spike in NPAs and
credit losses in 2020
Waves of Impact on the Insurance sector
o Stage 1: Loss of productivity and
operational efficacy due to worker's
injury claims and health insurance
claims in the event that employees are
infected by the virus
o Stage 2: Cancellation of events such
as the Vietnam Grand Prix triggered
large event cancellation claims of up to
Source: Oliver Wyman $1 billion
o Stage 3: In June 2021, SBI Life Insurance received over 28,000 death, with gross
claims of ₹732 crores and net reinsurance claims of ₹570 crores. HDFC paid over
200,000 claims in 2021, with gross claims amounting to ₹1,598 crores (Business
Line, 2021)

Future Research
Possible future extensions of the research would account for a fourth determinant of the financial
crises' Liquidity. This would require the inclusion of an efficient liquidity parameter that captures this
dimension.

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References
Begin, J.-F., Boudreault, M., Doljanu, D., & Gauthier, G. (2017). Credit and Systemic Risks in the
Financial Services: Evidence From the 2008 Global Crisis. Journal of Risk and Insurance, 10-
31.
Business Line. (2021, September). Covid effect: Rise in claims impacts insurers. Retrieved from The
Hindu Business Line: https://www.thehindubusinessline.com/money-and-banking/rise-in-
claims-impacts-insurers/article35612293.ece
Jacobs, M., Karagozoglu, A., & Peluso, C. (2010). Measuring Credit Risk: CDS Spreads vs. Credit
Ratings. Washington: US Department of Treasury.
S&P Global Research. (2020, April 6). For Asia-Pacific Banks, COVID-19 Crisis Could Add US$300
Billion To Credit Costs. Retrieved from S&P Global Ratings:
https://www.spglobal.com/ratings/en/research/articles/200406-for-asia-pacific-banks-covid-
19-crisis-could-add-us-300-billion-to-credit-costs-11359063

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