Smart About Risk  
Credit Risk

Credit Risk

The financial and economic crisis has highlighted the need for an active and sophisticated measuring and managing of credit risk. The consultancy firm Advanced Risk Management, s.r.o. offers a wide range of advisory services in the areas of credit risk and credit risk management. 

 

The company also offers seminars in the area of ​​credit risk in the form of open and in-house seminars. 
The company developed softwar CADCalc®Credit for portfolio credit risk management.

 

Offer for Financial Institutions 

Analysis and audit of the credit approval process 

  • Verification of validity and comprehensibility of internal regulations for the credit approval process and proposals of relevant modifications to those regulations.
  • Analysis of compliance with internal regulations in the process of credit approval. This includes an assessment of relevant losses resulting from the failure to comply with those regulations.
  • Analysis of the credit risk approval process and proposal of relevant changes in that process in order to increase efficiency and decrease administration costs of the credit approval process (e.g. if the entered information about clients is entered redundantly into two systems which might cause an increase in administration costs; if all of the information collected from clients is used or if there is some redundant information).
  • Control of the credit limit setting process.
  • Verification of meeting the pre-defined deadlines for approving a loan.
  • Preparation of a training (or e-learning session) for sales departments in order to teach employees of those departments how to properly assess the risks of loan applications.
  • Analysis of efficiency of communication between sales and risk management departments in the process of credit approval.
  • Control of the process of accepting of instruments used to secure loans and control of compliance with requirements of quality, seniority and valuation of such instruments.
  • If any inadequacies are identified in the credit approval process, ARM will propose comprehensive guidelines how to increase the effectiveness of this process.  

Analysis and audit of the credit portfolio management process

  • Verification of validity and comprehensibility of internal regulations for loan portfolio management and proposals of relevant modifications to those regulations.
  • Review of loan portfolio management process, inspection of timely updating of information about loans and debtors (including information from external sources that might indicate possible difficulties with loan repayment).
  • Review of the system for regular assessment of customer quality and/or review of their internal ratings (i.e., what are the powers of individual bank officers, how often over ruling is applied) including the analysis of the reasons of the failure to review the rating of a customer (e.g. lack of time on the side of mangers, non-existence or unavailability of information or reports necessary for the review).
  • Analysis of possible consequences of failure in the review of the risk of a loan portfolio including the assessment of the ratio of non-reviewed loans outstanding.
  • Analysis of the procedure of client internal rating review in the bank environment. For example, is the procedure automated? How long does it take to update a rating? Which processes are triggered by worsening of internal ratings of a particular client?
  • Analysis of the process of updating the level of credit limits.
  • Analysis of efficiency of communication between trade and risk management departments.
  • If any inadequacies are identified in the loan portfolio management process, ARM will propose comprehensive guidelines how to increase the effectiveness of the process.

Efficient management of bad debts and the workout process

  • Analysis of the bad debt handling process for those debts which are not in default but their quality is deteriorating:
    • Is there a system for gathering information that would indicate the worsening of a client’s creditworthiness?
    • How is the collected information being utilized?
    • How is the collected information shared with responsible departments?
    • Is the early warning system set up in an efficient way? Is communication with a client initiated on time and what are the consequences?
  • Analysis of effectiveness of workout procedure and proposal of relevant changes with a focus on the following issues:
    • How are the particular workout processes set and when are they triggered?
    • What is the efficiency of individual workout approaches and what is the total efficiency of workout departments (different ways of internal workout × sale of bad debts)?
    • Are there sufficient capacities in the workout departments to handle the assigned tasks?
    • Is there a system for the control of observation of time limits for individual work out actions (i.e. what is the system for monitoring legal delays for various legal actions?,).
    • Is it possible to enhance the efficiency of the workout process?
  • Creation of a system for credit workout prioritization for the purpose of workout departments in order to handle the most important credits first and minimize possible losses connected with the postponing of workout procedures.
  • Creation of a system for the sale of overdue loans. This system includes the evaluation of the present value of the loan for the scenario of internal workout and for the scenario of sale.
  • Definition of a model for automated collection of loans that are profitable to be sold (including determination of rules applicable to those credits that are not to be sold due to strategic, business or other reasons).
  • Proposal of a motivation scheme for employees of workout departments.  

Credit risk models

  • Assistance with the development or recalibration of scoring models, including both application and behavioral scoring methods.
  • Verification of models used for credit risk measurement from the point of view of methodology as well as from the point of view of utilization of those models within software applications of a bank.
  • Analysis of efficiency of utilization of information about clients inside the credit risk models (i.e. is the information used within the credit risk models complete or is there another, more suitable source of information?).
  • Calculation of “Probability of Default” (PD), “Loss Given Default” (LGD) and “Credit Conversion Factor” (CCF) ratios for both retail and non-retail expositions.  

Analysis of the credit risk management process

  • Analysis and proposal of a more efficient system of credit risk management with a special focus on the following areas:
    • Are credit limits set correctly and is there a regular process of monitoring of those limits?
    • Is there timely and satisfactory communication between individual departments?
    • Are the systems/applications utilized for credit risk management appropriate? Are some parts of those systems/applications redundant? Is it possible to improve those systems/applications?
  • Review of sufficiency of documentation about a credit risk management system.
  • Analysis of utilized data including the analysis of their correctness and “cleanliness”.
  • Analysis of the content of regular reports and analysis of their utilization in the decision making process.  

Collateral management 

  • Determination of what information, content and format should be collected about collaterals.
  • Inspection of revaluation of particular types of collaterals.
  • Definition of a model for automated revaluation of assets (e.g. real estate) that bank accepted as collateral and that must be revaluated on a regular basis.

Stress testing of portfolio 

  • Draft of methodology of stress testing of loan portfolios through one of the following methods:
    • development of a comprehensive model of the impact of macroeconomic characteristics on the ability of people and companies to repay their loans (and/or on the level of parameters PD and LGD for individual products, segments and rating groups), or
    • draft of individual scenarios of change of risk parameters PD and LGD.
  • Analysis of the impact of individual stress scenarios on the level of loss that the bank may potentially suffer and suggestion of necessary changes in the lending, loan administration and workout process. 

Concentration risk

Nowadays, individual companies are getting increasingly economically connected. As a result, measuring and managing this risk is gaining in significance.

  • Analysis of concentration risk, including determination of concentration risk level, determination of what impacts concentration risk, determination of impacts of higher concentration.
  • Creation/revision of methodology for concentration risk measurement and management.
  • Designing tools for concentration risk measurement and management.

BASEL II/III – Credit risk 

  • Verification of validity of models for capital requirements calculation from the point of view of correct methodology as well as from the point of view of technical realization.
  • Assistance with the development of software application for the purposes of regulatory capital calculation or delivery of the software solution CADCalc® Credit developed by ARM, that allows calculation of the regulatory capital charge using all the approaches defined in the Basel II/III document (standardized approach, foundation and advanced IRB approaches).
  • Assistance during the implementation of processes, reports or applications related to Basel II/III framework into daily routines – this applies not only to the risk management department but to other departments as well.
  • Global assistance in IRB approach implementation:
    • determination of discrepancies between Basel II/III regulatory requirements and actual settings of processes and systems in a bank,
    • segmentation of exposures,
    • process of delegation of responsibilities,
    • educational training of bank employees focused on Basel II/III (e.g. what are the advantages and disadvantages of the IRB approach, what are the consequences of IRB implementation for daily routines?, What is expected from the employees in the context of IRB?),
    • proposal of a project map that includes the necessary actions for the implementation of the IRB approach,
    • assistance with the project management of IRB approach implementation, verification and validation of individual reports and outputs (i.e. segmentation of expositions), assistance in formulation and validation of documentation and regulations,
    • validation of risk factor computation (PD, LGD, CCF),
    • assistance with configuration of IT systems (collection of data required for calculations, validation of quality and cleanliness of data, inspection of technical realization of regulatory capital calculation and reporting),
    • assistance with formulation and completion of requests for implementation of IRB approach and assistance in communicating with the regulatory agent,
  • Assistance with risk measurement within Pillar 2 of Basel II/III:
    • identification of risk that a bank is facing and that should be covered within the framework of Pillar II,
    • written formulation of methods for management and mitigation of risks that are not covered by regulatory capital,
    • calculation of economic capital for measurable financial risks,
    • determination of the amount of a bank’s internal capital required to cover risks within the framework of Pillar II.  

Calculation of loan-loss allowances

  • Draft of the methodology for the calculation of provisions both on an individual and portfolio basis.
  • Draft of a functional specification or delivery of own software applications for the calculation of provisions.  

 

Calculation of NPV of banks

  • Draft of the methodology or delivery of a software application CADCalc® Market for the calculation of the net present value of a bank while taking into consideration the level of credit spreads for counter parties.
  • Development of a methodology for the calculation of credit spreads for individual types of clients from actually observed values of risk parameters PD and LGD.
  • Stress testing of the size of NPV to changes in interest rates or credit spreads.
  • Note: the method for the calculation of NPV can be used in determining the return on investment or projects while taking into account the size of the credit risk of the counter party.  

Fraud Management

  • Assistance with the development or recalibration of ‘fraud-cards’ used for the identification of potential fraud (e.g. setting of monitored criteria, setting of threshold parameters and weights and setting of valuation methods).
  • Development of statistical models for identification of fraud.
  • Development of software for automated assessment of potential fraud.
  • Assessment of severity of occurred fraud.
  • Configuration of processes for minimization of risk of fraudulent events and implementation of those processes into the organizational structure (cooperation between sales, security and operational risk management departments).
  • Configuration of the reporting system.  

 

Anti Money Laundering (AML) 

  • Assistance with the configuration of the AML system according to regulatory requirements.
  • Configuration of the system for monitoring of suspicious transactions or optimization of AML criteria within the existing monitoring system.
  • Integration of Fraud Management and AML systems or development of such integration system.
  • Configuration of the reporting system.

Risk reporting

  • Draft of the format of reporting about the status and development of risk in individual segments, products and rating groups. For example, in the following structure (which can be adjusted according to the needs and customs of the bank):
    • volume of the portfolio,
    • portion of total loans provided,
    • number of current and new clients,
    • number of departing clients,
    • distribution of the portfolio by individual rating degrees,
    • structure of the limits,
    • distribution by number of days past due,
    • default rate,
    • number of loans in workout,
    • recovery rate of loans in workout
    • and others.
  • Draft of the methodology or delivery of a software instrument ensuring compliance with regulatory reporting requirements.
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Offer for Non-Financial Institutions 

Analysis of credit risk management and credit limits setting

  • Assessment of the correctness and completeness of internal directives for credit risk management and a proposal for possible adjustments
  • Analysis of the credit risk management process and a proposal for possible changes
  • Rules for communication between the sales departments and the credit risk management department
  • Customer segmentation according to the credit risk level
  • Evaluation of the loss level resulting from credit risk
  • Relevance of setting credit limits in relation to the loss level resulting from credit risk
  • Setting of a process for collecting procedures

Debt management from the perspective of the delinquency prediction, prioritization of debt collection etc. 

  • Creation of a model for the delinquency prediction
  • Analysis of the influence of real debts maturity on cash flow management (formalization of what is only in the heads of financial directors)
  • Analysis of the existing collection system and a proposal for change