Geographic Concentration Measurement
Geographic Concentration Measurement denotes the quantitative assessment of the degree to which a portfolio may be excessively concentrated in a particular geography or region. When the geography in question is a single country we have a more specific form of Country Risk Concentration Measurement.
For any quantification of risks, it is convenient to have quantitative benchmarks, for example to measure the distance from a neutral reference state of no concentration or full diversification. Some concentration/diversification indicators can be defined at portfolio level, providing synthetic measures of geographic concentration.
- The simplest method to quantify geographic concentration is computing the share of exposure (EAD) held by the k largest geographies or regions in the portfolio relative to total exposure.
- Weaknesses of this index are that the choice of k is arbitrary (e.g., country level, cluster of countries etc.) and the index does not use all the information available
- In place of EAD, exposures can be measured as product of EAD*LGD, thus considering the expected severity of losses which can actually differentiate the effective contribution to credit risk
Gini Index and the Lorenz Curve
The standard Gini index can also be used to measure geographic concentration
- The index G varies between 0 (perfect equality of exposures) to 1 for perfect inequality (limit in which one region accounts for the whole exposure and the others tend to zero).
- The index is sensitive to inhomogeneity of exposures but not to exposure number.
The standard HHI index can also be used to measure geographic concentration
- The index reflects both geographic heterogeneity and number of recognized regions (e.g. it tends to zero for many granular regions)
Ellison and Glaeser Index
Issues and Challenges
- Geographic Regions are somewhat arbitrary specifications. Sovereign entities included within each region are usually also very relevant from a risk perspective
- The interaction of sectoral and geographic concentration is a complex problem that is still not adequately understood
- Ellison, Glaeser, Geographic Concentration in U.S. Manufacturing Industries: A Dartboard Approach, 1997