The effect of diversification of the credit portfolio on bank’s credit risk

Document Type : Research Paper

Authors

Abstract

The credit portfolio management and the optimal credit portfolio selection are identified as one of the most effective factors in banks’ credit risk. Two main strategies in this regard include diversification versus concentration. In this study, at first, the status of diversification of Iran’s banking sector is analyzed, then the relationship between diversification of the credit portfolio and credit risk is considered. It should be noted that in order to measure credit portfolio diversification two set of naive indexes and benchmark (distance) indexes is used. The empirical evidences have obtained through a panel data analysis in a sample of 16 Iranian banks during 2006 to 2011 time period. The findings indicate that increase in credit portfolio diversification lead to increment in bank’s credit risk and this relationship is independent of the type of bank ownership.

Keywords

Main Subjects


Acharya, V., Hasan, I. & Saunders, A. (2006). Should banks be diversified? Evidence from individual bank loan portfolios. Journal of Business, 79(3): 1355– 1412.
Baele, L., De Jonghe, O. & Vander Vennet, R. (2007). Does the stock market value bank diversification. Journal of Banking & Finance, 31(7): 1999- 2023.
Basel Committee on Banking Supervision. (1991). Measuring and controlling large credit exposures. Bank for International Settlement,Basel.
Bebczuk, R. & Galindo, A. (2008). Financial crisis and sectoral diversification of Argentine banks, 1999– 2004. Applied Financial Economics, 18(3): 199- 211.
Behr, A., Kamp, A., Memmel, C. & Pfingsten, A. (2007). Diversification and the banks' risk-return-characteristics: Evidence from loan portfolios of German banks. Discussion Paper, Series 2: Banking and Financial Supervision.
Berger, A. N., Hasan, I. & Zhou, M. (2010). The effects of focus versus diversification on bank performance: Evidence from Chinese banks. Journal of Banking & Finance, 34(7): 1417- 1435.
Deng, S. E., Elyasiani, E. & Mao, C. X. (2007). Diversification and the cost of debt of bank holding companies. Journal of Banking & Finance, 31(8): 2453- 2473.
Diamond, D. W. (1984). Financial intermediation and delegated monitoring. The Review of Economic Studies, 51(3): 393- 414.
Louzis, D. P., Vouldis, A. T. & Metaxas, V. L. (2012). Macroeconomic and bank-specific determinants of non-performing loans in Greece: A comparative study of mortgage, business and consumer loan portfolios. Journal of Banking & Finance, 36(4): 1012- 1027.
Meyer, A. & Yeager, T. (2001). Are small rural banks vulnerable to local economic downturns. Review, Federal Reserve Bank of St. Louis.
Moshiri, A. & Karimi, M. (2008). Asset-Liability management at banking system: A proposed optimization model, using a jointly combination of GP and AHP approach, case study: KARAFARIN private bank. Journal of financial research, 9(1): 89- 114. (in Persian)
Omidinejad, M. (2012). Banking performance report 2006- 2011. Iran Banking Institute. (in Persian)
Parker, G. & Parsayan, A. (1999). Risk dimensions, risk management and it's application in financial institutions. Journal of financial research,4(2): 125- 144. (in Persian)
Pashaeefam, R. & Keshavarzian, A. (2011). Monetary policy in economic reform plan. Economic, cultural and social monthly magazine of bank Sepah.
(in Persian)
Pfingsten, A. & Rudolph, K. (2002). German bank's loan portfolio composition: Market-Orientation vs. specialization. Institute for Kreditwesen Discussion Paper, (02-02).
Reinhart, C. & Rogoff, S. (2010). Growth in a Time of Debt ,American Economic Review: Papers & Proceedings, 100: 573– 578.
Rossi, S. P., Schwaiger, M. S. & Winkler, G. (2009). How loan portfolio diversification affects risk, efficiency and capitalization: A managerial behavior model for Austrian banks. Journal of Banking & Finance, 33(12): 2218- 2226.
Tabak, B. M., Fazio, D. M. & Cajueiro, D. O. (2011). The effects of loan portfolio concentration on Brazilian bank’s return and risk. Journal of Banking & Finance, 35(11): 3065- 3076.
Talebi, M., Sahmani Asl, M. & Ashrafzadegan, M. (2012). The effects of Iran economic conditions on weak performance of Islamic banking system in Iran. Journal of financial research, 13(32): 73- 90. (in Persian)
Tehrani, R. & Tabatabaee, S. G. (2008). Evaluating the stability of systematic risk in Tehran stock exchange. Journal of financial research, 8(23): 13- 32.
(in Persian)