Community
As I laid awake in the numerous hotel rooms I visited, struggling with many a sleepless night, it got me thinking.
Thinking about what was keeping others awake.
If we look at what lays behind most of the major banking disasters in history we can see Credit concentration raising its head and we just don't seem to be learning our lessons.
What's the chance of everything going wrong at the same time in your credit portfolio?
That's really the question that keeps bankers- their shareholders, their customers and lets not forget their regulators-awake at night.
Ok it can be argued that until recently, borrower correlation and concentration risks have been difficult for the banking industry to measure in an objective way. Even Basel II reforms largely dodged the measurement issue by shunting correlation risk into Pillar 2 (supervisory review) rather than Pillar 1 (minimum capital requirements).
As a result, bank efforts to manage concentration risk are often based around broad-brush notional limits on particular names and sectors that fail to:
Risk management aside, broad-brush limits are bad for business because they restrict bank expansion in growth sectors where there may be no real economic reason for restraint.
This is particularly unfortunate for midsized regional and smaller banks that lack the enormous risk diversification benefits of the large banks and need to leverage their specialist skills in particular lending niches, including commercial real estate lending, if they are to compete.
So how can banks better understand the power of name and sectoral credit concentration risks, and learn to manage them in a transparent, rational way that maximizes risk-adjusted returns (and that reassures regulators)?
Banks with heavy correlation risks can make money and steer clear of trouble, so long as they hold enough risk capital to protect the bank against the higher level of unexpected losses and charge their customers accordingly (or exit markets where market pricing makes charging for concentration risks impossible).
Where these skills are lacking, banks with strongly correlated portfolios suffer the double blow of heavy losses followed by the need to adjust ongoing business strategy (at a time when their credibility is low with investors and those charged with oversight). That is, if the bank manages to remain solvent!
Having spent 17 hours asleep over the weekend, I can safely say my jetlag is behind me, at least until my next trip, but is yours!
This content is provided by an external author without editing by Finextra. It expresses the views and opinions of the author.
Ellen Roberson Global Marketing Advisor, Risk, Fraud & Compliance at SAS
30 August
Patrick Bermingham CEO at Adflex
29 August
Ben Lane VP of Colleague Experience Group at American Express UK
28 August
Alex Kreger Founder & CEO at UXDA
27 August
Welcome to Finextra. We use cookies to help us to deliver our services. You may change your preferences at our Cookie Centre.
Please read our Privacy Policy.