SC3-Chapter 20 - Managing Credit Risk on the Balance Sheet 5

SC3-Chapter 20 - Managing Credit Risk on the Balance Sheet...

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3/17/11 11 Improving Your FICO Score Pay your bills on time Do not apply for credit frequently Reduce your credit card balances If you have limited credit, obtain additional credit. Not having sufficient credit can negatively impact your score
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3/17/11 Part 4: Return on a Loan The revenue that a bank generates from making a loan must be sufficient to cover what things?
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3/17/11 33 Return on a Loan The bank must earn a return on a loan that is sufficient to cover: its cost of funds (interest expense) its non-interest expenses (administrative and operational) compensation for any expected loss (EL should be considered a cost of providing credit rather than a risk) unexpected loss – the presence of unexpected loss creates the requirement for a capital cushion to ensure bank solvency during a period when losses are unexpectedly high
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3/17/11 44 Return on a Loan The return on a loan may be influenced by a number of factors including: interest payments fees credit risk premium collateral other requirements such as compensating balance and reserve requirements covenants – requirements or restrictions placed on borrower
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3/17/11 55 Loan Pricing- Interest Rates and Rates of Return In the loan pricing process it is important to distinguish among several interest rates base lending rate contract rate of interest (APR) effective rate of interest or return on funds loaned RAROC (risk adjusted return on capital)
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3/17/11 66 Return on Funds Loaned In many loan contracts, the bank will also charge the customer fees loan origination fees fees for any unused credit commitments or lines of credit Also compensating balance requirements
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SC3-Chapter 20 - Managing Credit Risk on the Balance Sheet...

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