credit risk credit risk credit risk credit risk management 1866
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Explan at ion of check point sExplanation of check pointsExplan at ion of check point sExplanation of check points
1. Unless explicitly stat ed otherwise, items expressed in the question form such as does the institut ion or is the institution are minimum sta ndards tha t
ar e expected of all financial inst itu tions. Inspectors, a s th ey go th rough t heir checklists , need to fully verify the effectiveness of th ese item s.2. Unless explicitly sta ted other wise, items worded in the form of it would be desira ble tha t const itute best practice for all finan cial institut ions.
Inspectors need only confirm these items.
3. Items that are a combination of the two represent minimum standar ds for internat ionally active banks (those financial institutions calculating their
capital adequa cy ra tios a ccording to the Basle sta nda rds) but ser ve only as best pra ctices for other finan cial instit utions (those calculating their capital
adequa cy ratios according t o domestic sta ndar ds).
Distinction betweenDistinction betweenDistinction betweenDistinction bet ween board of directorsboar d of directorsboard of directorsboar d of directors an dandandand board of directors etc.boar d of directors et c.board of directors et c.boar d of directors et c.
1. Items tha t a re defined as roles of the board of directors are items for which th e board of directors itself needs to determine all essential matt ers. This
does not, however, preclude the board of directors from delegating consideration of draft documents to the management committee or similar bodies.
2. The phrase board of directors etc. includes the board of directors, the ma nagement committee, the business steering committee, and similar bodies.
Item s th at ar e defined a s roles of the boar d of directors et c. would ideally be deter min ed by the boar d of directors its elf, but ma y be delegat ed to the
ma na gement comm ittee etc. provided tha t t here h as been a clear delegation of this aut hority from th e boar d of directors, th e man agement comm ittee etc. has
kept m inut es of its pr oceedings and other ma teria ls tha t would allow after-the-fact confirmat ion, an d th ere a re a dequate int erna l contr ols in place, e.g., the
results a re reported to the board of directors, and au ditors a re allowed to par ticipat e in the ma nagement comm ittee etc.
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ItemItemItemItem Risk Management System Check PointRisk Management System Check PointRisk Management System Check PointR is k Managemen t Sys tem Check Point Exp lana t ion of R is k Management Check Point sExplanation of Risk Man agement Check P ointsExplanation of Risk Management Check PointsExplanat ion of Risk Management Check Poin ts RemarksRemarksRemarksRemarks
2. Awar eness a nd r oles of seniormanagement
(1) Est ablishmen t of ru les for riskmanagement
(1) Does senior mana gement est ablish ru les for creditrisk ma nagement in a ccordance with credit r isk
man agement p olicies and with th e approval of th e
board of directors et c? Does it r eview these r ules a s
necessary?
Do rules for credit risk man agement include the
scope of lendin g, credit ra tios, portfolio
management, decision-making authority, screening
guidelines, credit au dit met hods and other relevant
matters?
Note: Senior man agement
refers to bra nch office mana gers
and persons in senior ma nagerial
positions (including directors)
with equ ivalent levels of
responsibility, and so thr oughout .
(2) Appropr iate r isk management pract ice (2) Does senior ma na gement pra ctice effective creditrisk ma na gement in individual divisions in
accordan ce with risk m an agement policies and risk
mana gement rules, and does it bear the
responsibility for risk ma na gement?
It is desirable tha t int erna l models etc. based on
credit ra tings be used t o quan tify credit r isks for
credit risk mana gement purposes, and that the
institution set credit risk limits commensura te t o
appr opriate pr ofitability, allocations of mana gerial
resources, an d capital adequa cy.It is also desirable tha t such systems have adequat e
computer system support.
II .II .II .II . Esta blishment of appropriateEsta blishment of appropriateEsta blishment of appropriateEsta blishment of appropriaterisk management systemsrisk mana gement systemsrisk management systemsrisk mana gement systems
1. Awareness and evaluation ofrisk
(1) Esta blishment of integrated r iskman agement systems
(1) Does the institution practice integrated credit riskmana gement t hat includes, to the extent permitt ed
und er applicable laws an d ordina nces, its
consolidated subsidiar ies and su bsidiaries falling
under t he equity method?
Does th e institu tion practice integrat ed
man agement th at covers not only lending but a llasset s an d off-balan ce-sheet it ems for which th ere
ar e credit r isks including the credit risks associated
with mar ket tr ansactions)?
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ItemItemItemItem Risk Management System Check PointRisk Management System Check PointRisk Management System Check PointR is k Managemen t Sys tem Check Point Exp lana t ion of R is k Management Check Point sExplanation of Risk Man agement Check P ointsExplanation of Risk Management Check PointsExplanat ion of Risk Management Check Poin ts RemarksRemarksRemarksRemarks
(2) Evalu at ion of new products andactivities
(2) When int roducing new products and a ctivities, doesth e risk man agement d ivision evalua te th e locus etc.
of credit r isk, seek opinions from t he legal a ffairs
division an d in spections division etc. when
necessary, report t o the board of directors et c. on its
risk evalua tion findings, and seek t he appr oval of
th e board of directors etc. for th e int roduction of new
products and a ctivities?
2. Screening and management (1) Esta blishment of screening an dman agement system
(1) Is th e screening and mana gement division insulat edfrom t he in fluence of the busin ess promotion
divisions, for example, by being indepen dent of th e
business pr omotion divisions and n ot havingdirectors concurr ently overseeing both th e screening
and m ana gement division an d the business
promotion divisions?
If the screening and ma na gement division is not
independen t of the busin ess promotion divisions or if
a director concurr ently oversees both th e screening
and m ana gement division an d the business
promotion divisions, ha s t he inst itut ion p rovided for
checking functions to ensur e tha t screening and
mana gement is appropriate?
(2) Role of screening an d man agementdivision
(2) Does the screening an d man agement divisionprovide appropriate screening an d ma nagement of
loan s, for example, by accurat ely measur ing the
borr owers finan cial position, th e use to which t he
funds will be put , and t he resour ces from which the
loan will be repaid, an d ut ilizing this informat ion t o
verify th e accuracy of credit r at ings?
Does the screening and ma na gement division etc.
check that business promotion divisions ar eappr opriately following its inst ructions, tha t th ey
ha ve soun d lending st an ces (providing a smooth flow
of funding t o borr owers en gaged in sound
businesses, especially medium, sma ll, an d micro
businesses etc., banning speculative real estate
lending a nd lending for excessively speculative
fina ncial schemes, and refusing to supply funds t o
ant isocial elements), and t hat they ar e not engaged
in in appr opriate collections of fund s?
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ItemItemItemItem Risk Management System Check PointRisk Management System Check PointRisk Management System Check PointR is k Managemen t Sys tem Check Point Exp lana t ion of R is k Management Check Point sExplanation of Risk Man agement Check P ointsExplanation of Risk Management Check PointsExplanat ion of Risk Management Check Poin ts RemarksRemarksRemarksRemarks
Does the screening and ma na gement division
commu nicate t o business promotion divisions t hat
the Financial Inspection Manuals created by th e
aut horities ar e not t o be used as an excuse for
refusing to lend t o borr owers enga ged in sound
businesses, for recalling funds from su ch borrowers,
or for oth er ina ppropriat e han dling? Does it check to
ensure that the business promotion divisions are not
engaged in inappropriate ha ndling?
3. Credit management (1) Esta blishment of credit mana gementdivision
(1) Do the business p romotion divisions a nd screeningand m an agement division have systems in place for
integra ted ma nagemen t of credits (for example, th esta tu s of business conditions in th e borrowers
industry) that covers, to the extent permitt ed under
applicable laws an d ordinan ces, the financial
instit ut ion, its consolidated subsidiar ies, an d its
subsidiaries falling under the equity method?
Is a s pecific division a ssigned t o verify th e levels of
write-offs an d r eserves? Does th is division very t ha t
th e levels of write-offs an d reser ves ar e
commensu ra te to credit risks, and does it report the
amoun t of write-offs and reser ves accura tely to theboard of directors?
Is a specific division a ssigned t o man age port folio
sta tu s (including the concent rat ion of lending in
specific indust ries a nd groups)? Does this division
engage in a ppropriate portfolio mana gement an d
does it r eport regula rly on the st at us of th e portfolio
to th e board of directors?
(2) Roles of credit auditing division (2) Does the inst itut ion ha ve a credit audit ing divisionth at ver ifies the accuracy of credit r at ings, thestat us of borrower credit ma nagement, an d other
relevant informa tion? Does th is division verify th e
appropriateness of credit ma nagement and report its
findings t o the board of directors etc? If a business
promotion division or a screening and m ana gement
division ma na ges th e portfolio, does the credit
aud iting division verify the ap propriat eness of
portfolio man agement ?
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ItemItemItemItem Risk Management System Check PointRisk Management System Check PointRisk Management System Check PointR is k Managemen t Sys tem Check Point Exp lana t ion of R is k Management Check Point sExplanation of Risk Man agement Check P ointsExplanation of Risk Management Check PointsExplanat ion of Risk Management Check Poin ts RemarksRemarksRemarksRemarks
Do financial institutions calculating their capital
adequacy ratios according to the Basle standards
have specialized systems for their crediting auditing
(including systems in which the risk management
division performs credit a udits)?
It would also be desirable for financial institutions
calculat ing their capita l adequacy rat ios according to
domestic standards to have specialized systems for
th eir credit auditin g divisions.
(3) Roles of r isk ma na gemen t division (3) Does the institut ion ha ve a risk mana gementdivision tha t provides integrated ma nagement of
asset s with credit r isk exposur e and off-balan ce-
sheet it ems? Does it pra ctice integra ted credit risk
management?
Do financial institutions calculating their capital
adequacy ratios according to the Basle standards
have specialized systems for their risk management
division (including systems in which the risk
man agement division performs credit au dits)?
It would also be desirable for financial institutions
calculat ing their capita l adequacy rat ios according todomestic standards to have specialized systems for
their risk man agement divisions.
4. Management of problem credi ts (1) Esta blishment of mana gement systemfor problem credits
(1) Is th ere a specific division assigned to man age an dcollect problem credits? Does it appr opriately
manage problem credits?
Does th e institu tion specify the ra nge of credits t hat
part icularly require man agement a s problem
credits?
Do fina ncial institu tions calculatin g their capital
adequacy ratios according to the Basle standards
ha ve specialized divisions for man aging an d
collecting problem credits? It would also be desira ble
for financial institu tions calculatin g their capital
adequa cy ra tios according to domestic sta nda rds t o
ha ve specialized systems for mana ging and
collecting problem credits.
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ItemItemItemItem Risk Management System Check PointRisk Management System Check PointRisk Management System Check PointR is k Managemen t Sys tem Check Point Exp lana t ion of R is k Management Check Point sExplanation of Risk Man agement Check P ointsExplanation of Risk Management Check PointsExplanat ion of Risk Management Check Poin ts RemarksRemarksRemarksRemarks
(2) Role of problem credit ma na gementdivision
(2) Does th e division responsible for man aging an dcollecting pr oblem credits a rt iculat e clear guidelines
for working with problem borrowers an d man age th e
business conditions etc. at problem borrowers
accordingly?
Are problem borrowers given appropriat e guidan ce
in rebu ilding, or ar e th ey liquidat ed or collected,
based on t he guidelines for working with p roblem
borrowers?
5. Self-assessment s on assetquality
See Credit Risk In spection Man ual.
6. Wr it e-offs a nd r eser ves See Cr ed it Risk In sp ect ion Ma nu al.
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3. Secur ities appr aisa l ............................................. 56(1) Bond app ra isal ..................................................... 56(2) Equ ity app ra isal ................................................. 56(3) Foreign securit y app ra isal ................................... 57(4) Securities investment trust beneficiary certificate
app ra isa l..................................................................... 57
4. Appra isal of othe r asset s ..................................... 57(1) Suspens e paymen t appr aisal ............................... 57(2) Chat tel and rea l esta te appr aisal ........................ 57(3) Golf club member ship a ppr ais al .......................... 58(4) Miscellaneous assets appr aisa l ........................... 58
Inspections of capital a dequacy ra tiosI. Inspections of the accuracy of capital a dequacy
ra tios .................................................................... 59
II . Verificat ion of th e effect of write -off an d res erveinspection results on capital a dequacy ratios.. . .. . 59
1. Stu dy write-off an d reser ve levels ...................... 602. Calculation of additional requ ired writ e-off andres erve valu es ...................................................... 60
III. Monitoring of th e financial inst itut ions response t odeclines in th e capit al adequa cy ra tio ................. 60
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(3) Other a ssets tha t the chief inspector specifically designates for sampling:
Are designated as classified assets.
However, when t he financial institut ion u nder inspection ha s esta blished a sam pling exclusion t hresh old below which credits ar e not
sam pled, these credits sh all be excluded if the t hresh old is deemed r at ional in light of a genera l evaluation of the institu tions a sset size an d
nat ure, a nd t he influence on write-offs a nd r eserves etc.
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ItemItemItemItem Verificat ion of the appropr ia teness of self-Verificat ion of th e a ppropriat eness of self-Verification of the a ppropria teness of self-Verificat ion of th e a ppropriat eness of self-
assessment sta ndardsassessment standardsassessment sta ndardsassessment standards
Verification of th e app ropriat eness of self-assessmentVerification of th e ap propriat eness of self-assessmentVerification of th e app ropriat eness of self-assessmentVerification of th e ap propriat eness of self-assessment
resultsresultsresultsresults
RemarksRemarksRemarksRemarks
t i t )
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corporat ions etc.)
C. Special bonds (issued by pu bliccorporat ions or compan ies in wh ich
the government has invested but n ot
government-guaranteed).
D. Bank debentu resE . All bonds from issuin g compan ies th at
ha ve been ra ted BBB (triple B) or
better in th eir most recent rat ing by a
rat ings agency.
F . All indust rial bonds issued bycompa nies issu ing exchange-listed
indust rial bonds; all bonds selected for
over-the-count er pr ice quota tions.However, th e bonds described in E a nd
F sh all be classified if a study of the
financial position of th e issuer or the n atu re
of the industrial bond based on the sa me
concepts a s for credits indicates pr oblems
with safety.
2)2)2)2) Bond classification met hodBond classification met hodBond classification met hodBon d cla ssifica tion met hod A. Stu dy the finan cial position of th eissuers of all bonds except those listed
in A-F in 1) above using th e sam e
concepts a s for credits. If the s tud y
reveals no particular pr oblems with
safety, or if ther e is a su perior
guara ntee from a financial institution
etc., treat th e bond as n on-classified.
B. The book valu e of bonds described inth e proviso to 1) above an d bonds
other t han as described in A above is
assigned to Category II; the estimat edloss for bonds likely to generate losses
is assigned t o Category IV.
Note that privately-placed
bonds ar e categorized according to th e
degr ee of risk of loss of valu e usin g th e
sam e meth od as for credits.
If the institut ion does not ha ve
credits a gainst th e issuer of the bond,
it ma y categorize th e bond a ccordingto simplified criteria .
Verify tha t t he estimat ed loss ha s been assigned to
Cat egory IV for bonds issued by part ies with borrower
classifications of effectively bankrupt or bankrupt.
Verify th at privat ely-placed bonds a re cat egorized
using the sam e methods as credits.
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Item Verifica t ion of the appropriateness of self-
assessment standards
Verification of th e ap propriat eness of self-assessment
results
Remarks
(3) Golf club memberships Assign to Category II except for those Verify th at golf club member ships a re cat egorized
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(3) Golf club memberships Assign to Category II except for thoseheld for welfar e pur poses.
However, when th ere ar e deemed to be
problems in th e financial position of th e
issuer of the m embersh ip, assign aborrower classification u sing th e sam e
concepts a s for credits regar dless of th e
pur pose for which th e membersh ip is held.
Assign t hose classified as needs at ten tion
or in da nger of bankr upt cy to Cat egory II;
those classified as effectively bankrupt or
ban kru pt for which th e facilities can s till
be used a s Cat egory II; and those for wh ich
th e facilities cannot be u sed as Ca tegory IV.
When golf club mem berships a re h eldnot as other a ssets but on secur ities
accounts, use appropriate securities
meth ods for their categorization.
If th e institu tion does not have credits
against t he issuer of the membership, it
may u se simplified criter ia in
categorization.
Verify th at golf club member ships a re cat egorized
as described left.
When membersh ips are held on secur ities accounts,verify th at th ey are categorized as described left.
(4) Miscellaneous asset s Ca tegor ize assets other than thoseabove according to t heir collection r isk a nddegr ee of risk of loss of valu e in light of th e
nat ure of the asset.
Verify tha t miscellaneous assets a re categorized asdescribed left.
A. For pur chasing credits issued by non-fina ncialinstitution tha t a re deemed to be long-term credits
because of cont inuin g purchases at set a mounts ,
verify th at the pu rchasin g credit is categorized
using th e same meth ods as for credits.
Note that banks th at h ave established
special transaction accounts and use those
account s to purchase on a cont inua l basispur chasing credits issued by non-finan cial
instit ut ion so as to be deemed to be providing long-
ter m credits, have ina ccura tely cat egorized the
credit and also inaccurately calculated their capital
adequa cy ra tio, an d ar e fur ther more in violat ion of
Article 17-10 (ban on inter -accoun t t ra nsfers) of the
Concomitant Orders t o th e Bankin g Law (Law No.
10 of 1982). Verify tha t t his has n ot ta ken place.
B. When the financial institution under inspectionuses tr ust schemes to liquidate credits, and th efina ncial institu tion under inspection holds
Item Verifica t ion of the appropriateness of self-
assessment standards
Verification of th e ap propriat eness of self-assessment
results
Remarks
beneficiary certificat es in th e loan credit tr ust
h if h h l di
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scheme, verify tha t these loan credit tru st
beneficiary cert ificat es ar e categorized using t he
same meth ods as credits.
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Item Verifica t ion of the appropriateness of write-
off and reserve stan dards
Verificat ion of th e ap propriat eness of write-off an d
reserve results
Remarks
avera ge loss percent age for 1 -
forecast collection rate.
post as default r eserves the expected loss amount
calculated u sing the default r ate-based method.
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3) Verificat ion of exclusion of abn orma l valuesIf the institu tion excludes losses or
ban kru ptcies associat ed with specific borrowers
from its default rat es and/or ban kruptcy
probabilities becau se these values a re abnorma l,
verify th at ther e is rational justificat ion for th e
exclusion.
Specifically, if th e in stitu tion excludes
losses and ban kru ptcies associated with specific
borrowers from calculations of defau lt r at es an d/or
ban kru ptcy probabilities as abnormal values by
claiming that th e borr ower should have been
classified as in danger of bank rupt cy but wasinstea d classified as norma l or needs a tt ention,
verify that the losses and ban kruptcies are
reflected in calculat ions of defau lt r eserves in some
form, for example, by including t hem in
calculat ions of expected loss a mount for credits t o
in da nger of bank ru ptcy borrowers.
Verify whet her t he instit ution excludes as
abnorma l values losses and/or ba nkr upt cies
associat ed with specific indust ries a nd/or locat ions
by claiming that there a re sha rp differencesbetween losses an d bank ruptcies in t hese
indust ries an d/or locat ions an d losses and /or
bankruptcies in other industries and/or locations.
In t hese cases it is not appropriat e to exclude
losses an d/or ba nkr upt cies to specific industr ies
an d/or locations as abnormal. Rat her, it is
desirable that the institu tion group credits by
indust ry and /or location, calculate default r at es
an d/or ban kru ptcy probabilities for ea ch group,
find expected loss rat es for ea ch, and calculateexpected loss amoun ts a s the credits t o each group
mult iplied by the expected loss ra te for t he group.
4) Verification of calculation per iod for default ra tesand bankru ptcy probabilities
Verify that calculations of expected loss
amounts a re based at t he very least on default
rat es and bankru ptcy probabilities for the
preceding thr ee calculat ion periods.
If the calculat ion period is not t hree pa st
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Study t he appr opriat eness of this r esponse, verify what the capita l adequacy ratio will be in the n ext settlement term as a result of provisions of
additional required wr ite-offs and reserves a s called for in a ppropriate r esponse plan s, an d endeavor to form a consensu s a mong the chief inspector, th e
fina ncial institu tion under inspection an d the externa l auditors.
In a ddition, verify whether t he capital adequacy ratio this settlemen t t erm a nd next set tlement term could be at levels tha t would invoke Prompt
C ti A ti t f th i A ti l 21 2 t f th C it t O d t th B ki L (1982 Mi i t f Fi O di )
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Corrective Actions a s set forth in Article 21-2 etc. of the Concomit an t Or ders t o th e Ban king Law (1982 Ministr y of Finan ce Ordinan ce).
In doing this, verify whet her th e instit ut ion falls un der t he pr ovisions of Article 21-3:2 or 3 of th e Concomit an t Or ders .
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