Chapter 6 - Consumer Credit Risk

Chapter 6 - Consumer Credit Risk - Fundamentals of...

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Fundamentals of Financial Risk Management Chapter 7 Consumer Credit Risk Management Author: Clifford V. Rossi John Wiley and Sons 1
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Fundamentals of Financial Risk Management Overview Consumer lending is a major focus of depository financial institutions across a number of different loan types In this chapter we will learn how to measure these default risks drawing on theory from the previous chapter using a variety of analytical methods to understand the level and trajectory of defaults 2
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Fundamentals of Financial Risk Management Bank Loan Portfolio Composition 3
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Fundamentals of Financial Risk Management Measuring Expected Loss As profiled in Chapter 6, total dollar credit loss is defined by the product of default probability (PD), loss severity (LGD), and outstanding balance. Each of these components merits a separate approach to analytically deriving estimates for computing loss. 4
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Fundamentals of Financial Risk Management Estimating Losses An essential part of this reporting is to quantify both the actual performance of the portfolio as well as the expected losses of the division and how the risk of this portfolio changes over time. Note the distinction between historical losses and expected losses. Risk managers must always be forward-looking in their views and thus it is essential that tools be developed providing a window into the potential movement of credit risk. 5
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Fundamentals of Financial Risk Management Estimating Credit Losses Another consideration in computing delinquency metrics is whether these rates are conditional on other events such as prepayment or whether they are referenced to original or current unpaid principal balance (OUPB and CUPB) of the pool. It may be helpful, for example, to analyze performance of specific origination years (vintages) from the perspective of OUPB as a means of comparing one cohort to another at a specific point in time. It is critical in doing so that the analyst control for the amount of time since origination as loan aging will result in differences in performance holding other factors constant. 6
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Fundamentals of Financial Risk Management Accounting for Seasoning 7
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Fundamentals of Financial Risk Management Vintage Curve Anaysis One way to understand differences in origination credit performance is to conduct a vintage curve analysis 8
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Fundamentals of Financial Risk Management Multivariate Analysis A better understanding of drivers loan performance can be made from regression analysis Types of characteristics for modeling Borrower Loan/product Collateral (if secured) Economic/market 9
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Fundamentals of Financial Risk Management Risk Layering & Compensating Factors A desired credit profile can be developed from combinations of risk factors When these risk factors offset we refer to them as compensating factors; low credit score offset by more downpayment We can also increase the risk profile by combining riskier attributes; low credit score with low downpayment Must be on guard about risk layering concerns as products morph over time 10
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  • Fall '12
  • Michael
  • Interest, Operational risk

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