Credit Risk Management
Banks are traditional credit risktaking institutions. Hence, through experience, presumably they have developed well-founded mechanisms for managing credit risk? If that is the case, why have the leading international banks fundamentally changed the way in which they view credit risk over the past ten years? And does the Basel Accord support or hinder this new paradigm?
Overview - the traditional view of credit risk management (CRM)
- Banks as traditional credit taking institutions
- The typical credit control process
- Traditional credit risk mitigation
- The effectiveness of the process: does it work?
- Level I CRM
Case studies: Bankgesellschaft Berlin, Continental Illinois and Credit Lyonnais.
Modern credit risk management
Portfolio credit risk management
- Why is it the new paradigm?
What are the fundamental concepts?
Basic data requirements: exposure at default, probabilities of defaults, loss given defaults and correlations
How to estimate EADs
- Traditional loan exposure
- Provision of guarantees such as standby letters of credit or trade finance
- Settlement, pre-settlement and derivative risks
- The concept of credit conversion factors
How to estimate PDs:
- Traditional credit analysis. What are the main components of a traditional rating methodology
- Statistical modelling such as scoring
- Examples of statistical models
- How to assess PDs from statistical models
- Credit analysis vs. statistical model? What is the verdict?
- Use of historic data from external parties
- Market-based approaches:
- The credit market
- The debt market
- The equity market and Merton's model
- Hybrid models
- Each approach will be briefly but critically discussed
- How to estimate LGDs:
- Is estimating LGDs hard?
- Discussion of some estimation projects