The German institutional framework allows banks to build up hidden liabilities in the balance sheet instead of writing off problem loans. Hidden liabilities thus
indicate the existence of problem loans in the credit portfolio which, in turn, increases
the overall riskiness of the bank as indicated by the positive coefficient. The share of
customer loans as well as the sectoral concentration of the business loan portfolio both
have a negative effect on the probability of experiencing a distress event. We interpret
both measures as indicators of the degree of specialization of a bank. The profitability
of banks, measured by return on equity, reduces the likelihood of a distress event, while
the share of fee income has a risk-increasing effect. The share of fee income is a measure
of the engagement of a bank in non-traditional banking activities.