ICAAP: Credit Risk: Stress Test: Transition Matrix Stress Test
In this post we discuss one way of stress testing a rating
grades transition matrix. The stressed transition matrix will
then be used in the other credit risk quantification
calculations. The revised results will be compared to the
original credit risk quantification calculations to determine
the impact of the stress test.  How to stress the transition
matrix  The transition matrix stress test is based on a sector
wide or industry wide down turn scenario. The level of stress
test will depend on how many grades are used. The basic scenario
will be based on a one notch downgrade. Considering that the
stress test will focus on all names belonging to a particular
the industry/ industries, a one notch downgrade is considered a
fairly stressed scenario since it will have a portfolio wide
impact.  The test aims to penalize portfolios that have
classified customers belonging to the same sector. Since a
rating downgrade does not take into account the amou