Template-Type: ReDIF-Paper 1.0 Series: Tinbergen Institute Discussion Papers Creation-Date: 2008-03-20 Number: 08-029/4 Author-Name: Siem Jan Koopman Author-Email: s.j.koopman@feweb.vu.nl Author-Workplace-Name: VU University Amsterdam Author-Name: André Lucas Author-Email: alucas@feweb.vu.nl Author-Workplace-Name: VU University Amsterdam Author-Name: Bernd Schwaab Author-Email: bschwaab@feweb.vu.nl Author-Workplace-Name: VU University Amsterdam Title: Forecasting Cross-Sections of Frailty-Correlated Default Abstract: We propose a novel econometric model for estimating and forecasting cross-sections of time-varying conditional default probabilities. The model captures the systematic variation in corporate default counts across e.g. rating and industry groups by using dynamic factors from a large panel of selected macroeconomic and financial data as well as common unobserved risk factors. All factors are statistically and economically significant and together capture a large part of the time-variation in observed default rates. In this framework we improve the out-of-sample forecasting accuracy associated with conditional default probabilities by about 10-35% in terms of Mean Absolute Error, particularly in years of default stress. Classification-JEL: C33; G21 Keywords: Non-Gaussian Panel Data; Common Factors; Unobserved Components; Forecasting Conditional Default Probabilities File-Url: https://papers.tinbergen.nl/08029.pdf File-Format: application/pdf File-Size: 812334 bytes Handle: RePEc:tin:wpaper:20080029