3 Capital Allocation with CreditRisk +

Capital allocation for credit portfolios has two meanings. First, at portfolio level it means to determine capital as a buffer against an unexpected negative cash-flow resulting from credit losses. In this case, the allocation method can be specified by means of a risk measure. Its result is called economic capital of the portfolio. Second, at sub-portfolio or transaction level, capital allocation means breaking down the economic capital of the portfolio to its sub-units. The resulting capital assignments are called risk contributions. We discuss several current concepts for economic capital and risk contributions in a general setting. Then we derive formulas and algorithms for these concepts in the special case of the CreditRisk methodology with individual independent potential exposure distributions.