Default Risk Charge : Modeling Framework for the 'Basel' Risk Measure

Revised standards for capital requirements for market risks in a bank's trading book have been issued as a result of the Fundamental Review of the Trading Book. Under the new standards, default risk needs to be measured and capitalized through a dedicated Default Risk Charge (DRC). While quantitative impact studies are ongoing and banks are preparing for these regulatory changes, this paper is the first to present a modeling framework for the DRC measure that projects losses over a one-year capital horizon at a 99.9% confidence level. The article discusses selected risk factor models to derive simulation-based loss distributions and the associated default risk figures. Model properties, implementation aspects and a comparison to the Standardised Approach for default risk are explored through the use of example portfolios