Edith Cowan University
Faculty of Business and Law
School of Accounting, Finance and Economics
Australian Banks are widely considered to have remained in far better shape during the financial crisis than their global counterparts. The Australian banking sector has retained solid earnings and good capitalisation. Indeed, the 4 major Australian banks are part of a select group of only 8 global banks who hold AA credit ratings. Nonetheless, Australian banks have experienced significant deterioration in market values of assets in line with global financial market fluctuations. The KMV / Merton structural model is widely used by Australian and global banks to measure default probabilities of their customers based on market asset values and debt levels. We use this model to examine default probabilities of the Australian banks themselves during the financial crisis. In addition, we measure default probabilities under extreme conditions by modifying structural credit methodology to incorporate conditional value at risk (CVaR). We find that prior to the global financial crisis, Australian banks show negligible default probabilities. During the financial crisis, based on extreme movements in market asset values, Australian banks default probabilities fare only slightly better than their global counterparts.