Working Paper: NBER ID: w11579
Authors: Bernadette A. Minton; Ren Stulz; Rohan Williamson
Abstract: This paper examines the use of credit derivatives by US bank holding companies from 1999 to 2003 with assets in excess of one billion dollars. Using the Federal Reserve Bank of Chicago Bank Holding Company Database, we find that in 2003 only 19 large banks out of 345 use credit derivatives. Though few banks use credit derivatives, the assets of these banks represent on average two thirds of the assets of bank holding companies with assets in excess of $1 billion. Few banks are net buyers of credit protection and disclose using credit derivatives to hedge loans. Banks are more likely to be net protection buyers if they engage in asset securitization, originate foreign loans, and have lower capital ratios. The likelihood of a bank being a net protection buyer is positively related to the percentage of commercial and industrial loans in a bank's loan portfolio and negatively or not related to other types of bank loans. The use of credit derivatives by banks is limited because adverse selection and moral hazard problems make the market for credit derivatives illiquid for the typical credit exposures of banks.
Keywords: Credit Derivatives; Bank Risk Management; Hedging
JEL Codes: G10; G20; G21; D82
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| percentage of commercial and industrial loans in a bank's loan portfolio (G21) | likelihood of a bank being a net protection buyer (G21) |
| adverse selection and moral hazard problems (D82) | limited use of credit derivatives (G19) |
| securitizing loans or selling loans (G21) | likelihood of being net buyers of credit protection (G32) |
| credit derivatives usage (G13) | risk profiles of banks (G21) |
| type of loans (H81) | credit derivative usage (G19) |