Credit Portfolio Management in a downturn
- Toolkit and trade-offs to consider
Deutsche Bank seminar – Cape Town
27 May 2009
Gert Kruger, Head of Credit Portfolio Management
FirstRand Banking Group
Contents
•
Credit Portfolio Management vs business management: An analogy
•
Credit Portfolio Management approach at FRBG
•
Available tools and trade-offs to consider in the current cycle
Credit Portfolio Management vs business
management: An analogy
Example: Idealised coffee business
Perfect cappuccino
Perfect business strategy
and management
Profitable business
The toolkit for a perfect cappuccino contains
a series of interrelated elements
Perfect cappuccino
Various trade-offs exist between the coffee making process and broader
business strategy. Processes are interdependent and needs to be aligned
Active credit portfolio management
approach at FRBG
Positioning of CPM in FRBG…is to actively management the balance
sheet…and be the link between business strategy and risk management /
finance
CPM forms part of a broader Balance Sheet Management function, with
responsibility for capital, funding, CPM and macro hedging
A number of structural issues in South Africa
influence the strategy for CPM
The overall book is managed by decomposing it
into manageable subcomponents
Perform decomposition for each major portfolio subsegment
(Corporate/SME, Mortgages, Asset finance, Unsecured credit etc.)
FRBG credit portfolio management process
Jointly with business and deployed risk managers
CPM tools and trade-offs in the current cycle
The relationship between debt payment to income (DSC)
and impairments has broken down in the current cycle
2.00%
18.00%
16.00%
14.00%
1.50%
12.00%
10.00%
1.00%
8.00%
6.00%
0.50%
4.00%
2.00%
DEBT SERVICING COST
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1990
1989
1988
1987
1986
1985
1984
1983
1982
1981
1991
IMPAIRMENT
2009 …
*
0.00%
0.00%
* Interim report
CPM tools to change the portfolio structure
CPM tools are used to change portfolio in line with risk appetite
Scoring, affordability assessment, collateral rules
Scoring, affordability and collateral rules are three
of the main pillars to control new retail business
Credit Policy rules on
LTV etc.
Scoring output
Pricing model:
Funding, risk, capital,
expenses, profit
Credit granting
Affordability model
output
Pricing
Competitive market
pressures (volume
and price)
Rate and conditions
quoted to the client
Processes are interlinked – aim to balance accuracy vs efficiency
Various types of vintage graphs are used to track
effectiveness of origination credit actions
Example retail vintage graph: Cumulative defaults per origination year
18.00%
16.00%
Default Rate
14.00%
12.00%
10.00%
8.00%
6.00%
4.00%
2.00%
0.00%
3
6
9
12
2004
15
18
2005
21
24
27
2006
2007
Note: Vintage graphs are illustrations only and are not
based on the actual results of FRB’s portfolio vintages.
30
33
36
39
42
45
2008
Example retail vintage graph: Default rates per approval quarter
9.00%
8.00%
7.00%
Default Rate
6.00%
5.00%
4.00%
3.00%
2.00%
1.00%
0.00%
2004Q1 2004Q2 2004Q3 2004Q4 2005Q1 2005Q2 2005Q3 2005Q4 2006Q1 2006Q2 2006Q3 2006Q4 2007Q1 2007Q2 2007Q3 2007Q4 2008Q1 2008Q2 2008Q3
3
6
12
Pipeline efficiency analysis is used to
assess competitiveness of broader process
Distribution
efficiency
Credit criteria
Pricing and service
Targeted portfolio parameters / limits
Spot the build-up of the (UK) problem…
Mortgages >
100% LTV
doubled from
4-8%
Source: Turner review
Portfolio limits aim to limit the build-up of
concentrations
•
Target portfolio parameters/limits are articulated for each major
portfolio / asset class
• Sets the outer boundary of the desired targeted portfolio
• Approved by Retail Credit Committee
•
Items typically covered
•
•
•
•
% of new business with Loan to Value > specified levels (e.g. 100%)
% of new business with repayment to income > specified levels
% of portfolios with ratings lower than specified boundary levels
Targeted aggregate profile
Main focus of joint CPM/Business/Credit meetings is to determine tactical
responses to the macro environment given the desired target portfolio and limits
Hedging existing exposures (single name, macro
hedge, structured credit)
Structured credit: FRESCO II example
Underlying
portfolio of 200+
investment
grade corporate
or FI exposures
R2bn notes
issued into the
market.
FRB retains first
loss and super
senior.
Obtain insurance
Note: Exposures are still shown on balance sheet
for disclosure purposes, with normal provisioning
practices still applied.
Insurance profile
Losses suffered by FRB
Insurance received against portfolio losses
1000
900
800
700
600
500
400
300
200
100
0
0
250
500
750
1000
1250
1500
1750
Losses on the underlying portfolio
2000
2250
2500
Broader linkages: Capital, funding, ALM
CPM cannot be conducted in
isolation…need to consider broader linkages
•
•
•
Credit portfolio strategy vs funding strategy
Credit portfolio strategy vs capital strategy
ALM hedging strategy vs credit hedging strategy
• Consideration of natural hedges
•
•
•
Local vs international strategy differences
Bank Lending vs Capital markets lending differences
Technical linkages
• Rating models vs IFRS provisions vs Basel II capital estimation and
expected loss vs IFRS capital impairments
• Recovery processes vs downturn LGD estimation
• Others
Concluding remarks
Conclusion
•
CPM approach complements traditional credit risk management
• Explicitly considers the portfolio view and macro linkages
• Focus on broader linkages, e.g. capital, funding, hedging
•
A variety of tools are available to manage the portfolio
• Trade-offs always exist between risk and business strategy
• Combination of science and judgement
•
Current cycle poses particular challenges
• De-linkages of historical relationships
• Trade-offs between capital, funding, credit more pronounced
•
CPM and wider BSM approach provides key building blocks to
effectively manage these challenges