Sovereign Correlation Methodology (by Vojislav Sesum, PhD, Moody’s Analytics)

The recent financial crisis has led to considerable concerns about the impact of sovereign credit risk on credit portfolios. This talk describes methodology for calculating the asset correlations between various sovereign credit exposures as well as the correlations between sovereign credit exposures and other asset classes, such as publicly traded firms.  The methodology and estimation approach rely on the sovereign CDS market data and on GCorr, Moody’s Analytics global multifactor asset correlation model. Once calculated, the sovereign correlations can serve as inputs to a portfolio optimizer or a risk estimation system.