RiskCalc Qualitative Overlay
RiskCalc Qualitative Overlay is a systematic and global framework designed to supplement your
credit analysis by combining qualitative factors with quantitative measures to provide an overall
risk rating of an obligor. RiskCalc models generate quantitative credit measures based on financial
statement and loan inputs. An overlay computes a qualitative score based on a series of weighted
categories and questions that assess subjective factors related to an obligor or loan. A risk-based
approach that combines both quantitative and qualitative factors into a single comprehensive
analysis gives you greater insight into the creditworthiness of your obligor.
Combining Qualitative and Quantitative Factors
RiskCalc calculates quantitative probability of default (PD) measures known as Expected Default Frequency (EDFTM) based on
financial statement inputs, and Loss Given Default (LGD), based on loan-specific information such as debt type or seniority. It also
computes a weighted qualitative score or adjustment based on a series of subjective categories and questions that comprise the
Qualitative Overlay feature. When combined, the quantitative EDF and LGD along with the qualitative score or adjustment produce
an overall PD and LGD that provides a more comprehensive risk rating for your borrowers. For all banks in our test sample, our
final scores showed greater power than either the initial internal ratings or the quantitative credit measures used in isolation.
An overlay can also be calibrated to the uniqueness of your portfolio by modifying tuning parameters. The Qualitative Overlay
feature is supported by a published methodology that produces standardized outputs for easy interpretation.
RiskCalc Qualitative Overlay
User Controls
The RiskCalc Qualitative Overlay module provides an overview of a
borrower or loan’s credit-worthiness by combining a RiskCalc EDF
and LGD with a set of predefined questions, weights and scores.
The user selects answers to each of the pre-defined questions as a
secondary component in the overall assessment.
Administrative Controls
The administrator can modify questions, weights, scores and add
multiple overlays to account for different qualitative factors based on
industry or geography. This allows an organization to tailor the overlay
to their specific qualitative assessment requirements and provide a
systematic approach throughout the organization.
The benefits of a comprehensive and well-designed qualitative overlay include:
»» A framework that enhances credit analysis of private corporations and banks by combining a score derived from applicable
qualitative factors with RiskCalc’s quantitative EDF and LGD measures derived from financial statement and loan inputs.
»» The flexibility to create a more powerful combined score and rating, offering standard questions and customizable options.
»» Empirical evidence for banks in our test sample reveals that a combined PD and LGD offers increased discriminatory power than
either an initial internal rating or the RiskCalc EDF and LGD credit measures used in isolation.
»» A foundation for sound credit decisions that offers increased transparency and consistency.
Method: EDF Quantitative and Qualitative Factors
To enhance your credit risk analysis, we offer an overlay tailored to private corporations and private banking institutions. Qualitative inputs
for the private corporation overlay assess the company itself, its applicable industry and market, its management team and balance sheet
factors. It can be customized to fit your organization’s credit risk assessment needs. The quantitative factor leverages balance sheet and
income statement inputs to produce RiskCalc EDF measures. Subjective factors are tailored to the overlay for either private corporations
or private banking institutions. These factors leverage your responses to questions about topics such as the company’s industry, market,
management practices, or the bank’s sovereignty and potential support during a crisis, to produce a qualitative score. Together, the two
factors generate an overall borrower rating in the form of a combined PD that you can also map to your own internal Organization Rating.
Method: RiskCalc LGD
RiskCalc LGD provides a systematic approach for estimating recovery for a specific debt issue by incorporating factors specific to the issuer
(i.e., the borrower), the issue (i.e., the loan), and external factors such as geography, industry, and credit cycle state. Built on top of the
RiskCalc LGD model, the LGD Qualitative Overlay provides a framework that combines empirically-derived LGD credit measures from
RiskCalc LGD with judgmentally-derived factors to capture a more complete view of LGD for middle market commercial and industrial
firms. The overlay incorporates additional risk mitigating factors such as security interest in collateral, collateral value and quality, the
bank’s monitoring practices and controls, tightness of covenants, and guarantees on the loan.
MOODY'S ANALYTICS
2
RiskCalc Qualitative Overlay
LGD Qualitative Overlay Approach: Not Directly
Based on Liquidation Value
RiskCalc Secured LGD
RiskCalc Unsecured LGD
EDF Qualitative Overlay Approach
Qualitative
Factors (e.g.
Market, Industry,
Management,
Sovereignty, Size,
etc.)
Discounted Asset
Coverage Adjustment
Enterprise
Valuation
Covenant
Structure
Collateral
Types
Qualitative Factor
Adjustment
Guarantees
Adjusted
Unsecured LGD
Financial
Statement
Inputs
Haircut
+
Adjusted
Secured LGD
Qualitative Overlay
Scoring Function
Collateral
Quality
Adjustment
Final Adjusted LGD
RiskCalc Scoring
Function
Qualitative
Score
Quantitative EDF
and LGD Measures
Combined PD and
LGD Measures
LGD Qualitative Overlay Approach: Directly
Based on Liquidation Value
RiskCalc Unsecured LGD
Borrower Rating
Qualitative Factor
Adjustment
Enterprise
Valuation
Covenant
Structure
]
_
Adjusted
Unsecured LGD
Haircut
-
After Haircut
Value of
Collateral
Collateral
Types
Guarantees
Final Adjusted LGD
MOODY'S ANALYTICS
Collateral
Quality
Adjustment
3
RiskCalc Qualitative Overlay
Additional Scorecards
»» Project Finance Scorecards - Moody’s Analytics offers off-the-shelf and customizable scorecards and models for the assessment
of project finance credit risk. Using a rigorous development process, our project finance scorecards integrate qualitative and
quantitative risk factors to enable more effective risk management. Our approach assess Probability of Default (PD) and
Loss Given Default (LGD) across all sectors of project finance, including a LGD and PD scorecard for generic project finance
transactions and a PD scorecard for Renewable Energy.
»» Banking Scorecards - Incorporated with our RiskCalc Banks and US Banks models, a qualitative overlay that offers a
comprehensive framework for bank analysis. This overlay, designed to assess private banking institutions, evaluates the bank’s
operating environment, bank default risk, the likelihood of external financial support during a crisis, its size and the sovereign
rating of the country where it operates. The bank overlay is available only to clients that subscribe to any combination of the
RiskCalc models Banks 4.0 or US Banks 4.0.
Customization and Advisory Services
Although the RiskCalc Qualitative Overlay module offers standard parameters, our advisory team can work with your firm to
provide customized advice and solutions for this feature. We not only focus on the most appropriate statistical techniques,
factors, and weights to incorporate into your customized overlay but we also take into account your firm’s unique underwriting
policies, credit assessment practices, operating environment, risk culture, and current and target portfolio characteristics.
In addition, our customized qualitative overlay enhancements can be statistically validated and refined based on the changing
dynamics of your portfolio.
About Moody’s Analytics
Moody’s Analytics, a unit of Moody’s Corporation, helps capital markets and credit risk management
professionals worldwide respond to an evolving marketplace with confidence. The company offers
unique tools and best practices for measuring and managing risk through expertise and experience in
credit analysis, economic research and financial risk management. By offering leading-edge software
and advisory services, as well as the proprietary credit research produced by Moody’s Investors Service,
Moody’s Analytics integrates and customizes its offerings to address specific business challenges.
CONTACT US
Visit us at moodysanalytics.com or contact us at a location below:
AMERICAS
+1.212.553.1653
[email protected]
EMEA
+44.20.7772.5454
[email protected]
ASIA (EXCLUDING JAPAN)
+852.3551.3077
[email protected]
JAPAN
+81.3.5408.4100
[email protected]
© 2016 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.
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