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Basel II Assessing the Default and Loss Characteristics of Project Finance Loans
Basel 1(1988)
Target capital ratio(Net worth to assets) 8% Actual amount of capital function of banks asset portfolio. $100 million PF loan needs $8 million of capital ( $100*100%risk weight* 8% target capital) Simple but not perfect No difference between loans within given asset category.
Asset Categories Cash Risk weights 0%
50% 100%
Capital requirements
Set capital requirements based on credit risk within asset classes using two approaches Standardized approach Internal ratings based ( IRB ) approach Mostly Banks using IRB approaches would have lower capital requirements than banks using the standardized approach.
Standardized approach
Banks to use ratings on their borrowers or loans using the ratings supplied by credit rating agencies approved by regulators , with risk weights set by the Basel committee to determine minimum amount of capital to be held. If borrowers or loans were unrated - use 100% risk weights
ii) Advanced IRB approach: To be used when banks have both PD and LGD ( loss given default ) data.
The incremental capital charge would add to the price of the loan.
If Banks use IRB approaches for their corporate loans then IRB approaches required to be used for project loans also.
110885 34%
108478 26.2%
Asia Pacific
Latin America Other Total
6
6 5 43
14%
14% 12% 100%
Infrastruct 7 ure
Metals & Mining Telecom Other Total 6 6 7 43
16%
14% 14% 16% 100%
46.20
40.38
Phase 1 ....Analysis
Data Suggests PF loans have better LGD Profile than Corporate Loans Proposed PF loans should require Appx Half as much Capital as claims on Corporate Loans
Phase 1 ....Analysis
Proposed Risk Weights
Rating PD CF loans Risk Weight Categoriz Basel Consortium -ation Proposal( Proposal (Mar Jan 2002) 2002)
AAA to A- .03-.09%
BBB+ BBBBB+ .25 .75
19-35%
55 90
Strong
Strong Fair
75%
75 150
10-18%
28 46
BB
BB+ B to C
1
2 3 5-20
100
130 150 186-376
Fair
Fair Fair Weak
150
150 150 300
50
65 75 93-188
Default
NA
635
Default
750
313
Analysis was done by Risk Solutions Analysis Suggested PF loans has lower PD then Corporate Loans
Conclusion
Risk Solution has analyzed the data and found that Project finance Loans are less riskier then Corporate finance Loans from Both LGD and PD Perspective. Proposed to reduce the risk weights on PF loans More Banks to be Added in Study to further Strengthen the Analysis.