A key metric that summarizes this credit worthiness of a bank’s obligor is the Probability of Default (PD). Besides credit worthiness assessment and capital computation under IRB, PD is one of the key metrics required in the updated IFRS 9 accounting standards. The nature of the PD and what it represents can fall under one of two rating philosophies: point-in-time (PIT) and through-the-cycle (TTC). Under IFRS9, PIT PD is recommended for computation of expected losses whereas TTC PD (with a 12 month horizon) is recommended under Basel IRB capital calculation framework. Moreover, while the Basel TTC PD horizon is typically 12 months, the PD required under IFRS 9 is either 12 month PIT or a lifetime PIT PD.
Irrespective of how robust the PD model is, it requires an appropriate calibration to ensure that the PDs are being estimated accurately, both Point-in-Time (PIT) and Through-the-Cycle (TTC).
- Calibration allows to account for sampling biases
- Enables the incorporation of an appropriate rating philosophy within the IRB model output
- Model scores which are mapped to PDs can be linked to external ratings
We have a robust calibration framework guided by a global team of experts, which involves the following:
- Calibration of both PIT and TTC PD
- Transition from TTC PD to PIT PD and vice-versa
- Forward-looking point-in-time 12-month PD
- Long-run forward-looking, fully through-the-cycle PD
- PD term structure, as required in IFRS9
- Lifetime PD as required in IFRS9