Bank Distress During the Credit Crisis: Contagion, or Common Shocks? Mark Mink Discussion by Nadia Massoud Norges Bank finstab-conference 2010

Main Objective of the paper To disentangle the impact of contagion and common shocks on banking sector stability during the credit crisis of The underlying presumption is that a default of one bank would cause other banks to suffer losses as well; contagion hypothesis, an increase in a bank's default probability should lead to a decline in the other banks' stock market valuations.

Main findings A change in one bank's default probability or CDS-spread hardly affects the market's valuation of any other banks. This finding implies that correlated declines in banks' asset values during the credit crisis were mainly due to common shocks affecting the banking sector as a whole, and were only to a very small amount driven by interbank contagion.

Methodology Proposed contagion model Where M indicates a market factor excluding any contagion effects. M is hard to observe and propose this model

Methodology: Concerns Probability of default is assessed based on changes in the value of the assets of the banks Contagion effects is more relevant when the default event is unexpected There are many defaulting event that can be accounted for in the model

The history of US bank failures Year Number of Bank FailuresYear Number of Bank FailuresYear Number of Bank Failures

Another Approach To determine whether bank failures have a contagion effect: 1. Detect any contagion effect of banks that ultimately failed. 2. Define unanticipated unfavorable information has a contagion effect. 3. Examine any abnormal performance of various bank portfolios at the time of those events.

Sample The paper use data on banks' market value between January 1st 2007 and December 31st 2009 obtained from Thomspon Datastream. The Sample includes the 96 banks: 26 US Banks 60 are from countries in the European Union.

Sample, Cont’d Sample size is very small Representative sample Power of the test especially for conducting tests within groups Sample selection bias, it only includes relatively large bank with market data Contagion effect might be more severe for smaller banks

Sample, Cont’d Contagion might be more severe for banks operating in the same region/country since banks may interact with each other much more.