The AI Monitor: Bankruptcy Prediction Models

Models using machine learning (ML) are

Bao et al. 2020, Journal of Accounting Research 58 (1), page 199

Checcini et al. 2010, Management Science 56 (7), page 1146.

The standard warning in this book applies: Beware of models. Playing with mirrors? In particular, ask how well they work out of the estimation period in real time. How often do they fail to predict bankruptcy or default (a Type I error)? How often do they predict bankruptcy when it does not occur (a Type II error)? Understand the fundamentals underlying the business and keep a book on liquidity.