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Estimation of the current market value of banks and the pricing of risk-adjusted deposit insurance and loan guarantee in an option-pricing context : the case of Hong Kong Lau, Yam Shing

Abstract

This paper presents a methodology for evaluating the solvency of banks and for empirically estimating the prices of government guarantees on loans made by banks and deposit insurance premiums, from the failure history of Hong Kong. The approach used exploits the isomorphic correspondence between loan guarantees and common stock put options. Though limited by the data set of publicly available information, this study is successful in identifying problem banks, and more specifically in evaluating the solvency of banks. Therefore, the model is useful in the early-warning aspect. Moreover, if the information set can be expanded to include those information available to the regulator, the result of this study can be improved.

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