New Method Calculates Capital Needed to Cover Model Risk in Credit Portfolios.
The article discusses how to measure the risk of using models to predict credit losses. The researchers developed a method to calculate the capital needed to cover this risk, based on three factors: the impact of using the wrong model, the risk of inaccurately estimating model risk, and a prediction error hedge factor. This method was applied to a portfolio of corporate loans to show how it works in practice.