Professional Documents
Culture Documents
Definition of Credit
ItRisk
is defined as the possibility that a borrower will fail to
repay his/her debt (s) to the bank/lender on the due date.
Trading Risk
This type of risk originate when a bank sells or securitize
its loan portfolio or other assets with counterparty.
The more volatile the asset portfolio of the bank, the greater
the risk of loss.
Solvency Risk
Basel II introduces a far more sophisticated approach to
bank solvency than Basel I the prior international capital
accord dating from 1988.
In effect, the strategies may not fit the future ideals of the
bank in short there is a mis-match.
Such risk may originate from the fact that the bank may
have a good plan, but inadequate decision-making
processes or lacks a systematic implementation plan. (e.g.
a business strategy that is unclear, but financially viable,
or a business venture that is clear but financially
uneconomical).
Credit Risk Management in Banking Industry
Reputation Risk
Such risk is of significant negative public opinion that
results in a critical loss of funding or customers.
Reputation risk may not only affect the banks image but
its affiliation with other institutions.
Legal risk may also arise when the legal rights &
obligations or parties to a transaction are not well
established.
Weather Risk
Over the years, the weather condition all over the world has
changed drastically with untold consequences. It is still
changing without much of early warning signs.
Credit risk specialists are now very much concern with the
potential implication of this phenomenon, when assessing
borrowers business plans.
What use to be a very far remote event can hit us any time,
and at any place.
Retail Individuals
Market
Borrowers
Mid Medium-Size
Market Businesses
Large Corporate
Companies Market
Small
Low Credit Exposure High
Credit Risk Management in Banking Industry
Borrower
Submission Approval/Rejection
Credit Application
or Origination
Capital * Capacity
Character * Collateral
* Consideration
Credit Analysis
& Assessment
*Credit Structuring Credit Policy
*Credit Sanctioning Credit Limit
Credit Pricing
Credit Management
& Administration
Capital (Economic, and Regulatory)
Provision for Default
Provision for Risk Sharing (e.g. co-financing)
Credit Risk Management in Banking Industry
Borrower
*Origination
Structuring
Pricing
Credit Application Underwritin
or Origination g
Sanctioning
Monitoring
Credit
Management
Capital Credit
Market Capital
Credit Risk Management in Banking Industry
Capital Management
*Economic Capital
*Regulatory Capital
Repayment Capacity
This test would give the banker a fair idea on how to assess
the repayment capacity of its borrowers.
The key priority for the banker is the ability for the customer
to service its loan/credit efficiently.
Credit Risk Management in Banking Industry
Borrowers Contribution
A borrowers contribution towards the total borrowing
application is very vital for the banker to gauge the degree
of seriousness of the applicant.
Borrowers Character
A very vital piece of information that will allow the banker to
decide to lend, or not to lend.
Environmental Considerations
During the last decade or so, the conservation/protection of
the environment took centre stage in whatever business
decision is taken.
Systematic Risk
This type of risk is also referred as undiversifiable risk or
market risk, and sometimes also known as macro-economic
risk.
Unsystematic Risk
This type of risk is sometimes referred as unique risk.
Examples:
Company profit,
Products/services,
Geographical areas, the market where the company operates,
Management issues, and
Operating costs structure.
Credit Risk Management in Banking Industry
Example:
What would be the impact of the interest rate changes do
to the cost of servicing the loan/facilities?
Is the borrowers business heavily exposed to exchange
rate risk?
What about the trends in the industry, which the business
operates?
What if the key personnel leaves the business?
Credit Risk Management in Banking Industry
Credit Risk
For most banks, loans are the largest and most obvious
source of credit risk.
Liquidity Risk
Because of the size of the loan portfolio, effective
management of liquidity risk requires that there be close ties
to and good information flow from the lending function.
Price Risk
Most of the developments that improve the loan portfolios
liquidity have implications for price risk.
Transaction Risk
In the business of lending, transaction risk is present
primarily in the loan disbursement and credit administration
processes.
Compliance Risk
Lending activities encompass a broad range of compliance
responsibilities and risks.
Strategic Risk
A primary objective of the loan portfolio management is to
control the strategic risk associated with a banks lending
activities.
Reputation Risk
When a bank experiences credit problems, its reputation with
investors, the community, and even individual customers
usually suffers.
Credit culture vary from bank to bank it is not all the same!
Credit Risk Management in Banking Industry
The most likely informed decision, which a risk manager will take
depending, of course his attitude towards risk:
The typical question, which follows from this short overview drives
us to ask.
Which manager is correct, and Why?
Credit Risk Management in Banking Industry
The price (index rte, spread, and fees) charged for an individual
credit should cover funding costs, overhead costs,
administrative costs, required profit margin, and a premium
for risk.
A. Independence,
B. Credit policy administration guidelines,
C. Loan review guidelines,
D. Audit of the transactions,
E. Administrative & documentation controls,
F. Use of external reporting (e.g. rating agencies, analysts,
Stock exchange reports, auditors report).
Credit Risk Management in Banking Industry
Independence
Independence is the ability to provide an objective report
of facts and to form impartial opinions.
Audit of Transactions
Audit activities in lending departments usually focus on
the accounting controls in the administrative support
functions.