The News section of the Kamakura website has the latest release for the Kamakura Troubled Company Index, which is the percentage of 23,807 companies in 30 countries around the world which have annualized short term default probabilities of more than 1%. This post covers the numbers behind the press release and discusses the implications for the future.
Prior to the 1.1% jump in March, the Kamakura Troubled Company Index had stabilized at slightly below the 24.0% level that it reached in December. The Index was at 23.1% and 23.2% in January and February, and some bloggers speculated that perhaps we were just passing the peak of the current recession from a credit risk point of view. The Kamakura Troubled Company Index is designed to be as “real time” as possible in tracking current credit conditions, so it’s important to understand the mechanics of how the index moves around. In general the short term default probabilities, using the 4th generation Jarrow-Chava reduced form default models from Kamakura, rise and fall over the business cycle. By “short term” we mean the annualized 1 month default probabilities. Longer term default probabilities also rise and fall over the cycle, but, like long term interest rates, they are more stable that the short end of the term structure of default probabilities. Kamakura reports default probabilities to the nearest basis point, 0.01%, so the KRIS default probabilities have 10,000 “ratings” running from a default probability of 0.00% to 100.00% in 1 basis point steps. These default probabilities are refreshed daily, allowing subscribers to the KRIS default probability service to see the components of the Troubled Company Index on a daily basis. Kamakura formally publicizes the index based on data for the last Thursday of each month.
At the end of February (February 26), there were 21,937 public companies with available default probabilities in the KRIS universe. Of these companies, 596 were in extremely precarious position, with default probabilities over 20%. They constituted 2.7% of the total universe of public companies. Companies with short term default probabilities of more than 1% were 23.2% of the universe, as noted above and in Kamakura’s March 2 press release. By March 19, the number of distressed companies with default probabilities over 20% amounted to 622 companies in total, out of 22,272 companies’ total. This was 3.1% of the total universe, and the number of companies with default probabilities of 1% or more was 24.0% of the universe. By March 26, the “official” end of month reference date, the number of companies covered had risen to 23, 807 because of a major expansion of KRIS coverage in Canada. The number of companies with default probabilities over 20% was 730, the same 3.1% proportion as on March 19. The overall troubled company index rose to 24.3% because there were relatively more companies showing moderate distress, with short term KDPs in the 1% to 20% range. Note the the number of companies in each default probability range for a number of reasons:
- Companies that were riskier might enter the relevant default probability range from a higher default probability range, as their credit quality improves
- Companies that were less risky might enter the relevant default probability range from a lower default probability range, as their credit quality declines
- Companies might disappear from the universe because they failed by the KRIS default definition
- Companies might disappear from the universe because necessary inputs to the default model were missing on that day and no default probability could be calculated
- Companies which were not previously represented in the universe might enter now that data has become available
The number of companies in the universe varies daily depending on the availability of financial statements, stock prices, interest rates and other macro factors. The biggest single source of changes in coverage from day to day is national holidays in one or more of the 30 countries which compose the global public company universe. If ever coverage is substantially reduced because of holidays (say Thanksgiving Day in the U.S., which falls on the fourth Thursday in November), the end of month reference date is moved to the nearby day which gives the most representative picture of global corporate credit quality.
Donald R. van Deventer
Honolulu, March 30, 2009