group no 3 - credit risk
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8/7/2019 Group No 3 - Credit Risk
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Priyanka Biyani 70
Atit Sanghavi 78
Rohan Merchant 85 Kashish Shah 84
Hiren Parekh 86
Mehul Shah 97 Navin Todi 124
Priyanka Narvekar 126
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1. CREDIT RISK & ITS TYPES
2. CREDIT RISK MODEL
3. PRINCIPLES OF CREDIT RISK
MANAGEMENT
4. CREDIT RISK MEASUREMENT
5. ASSESSING CREDIT RISK
6. MITIGATING CREDIT RISK
7. CLAIM PROCEDURE
8. POLICY FRAMEWORK FOR
INDIAN BANKS
9. CREDIT RATING AGENCIES
10.ECGC
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Investors Risk of Loss on Default
Loss in the form of:
Loss of principal and interest
Decreased cash flow
Increased collection costs (cost of recovery)
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Default on payment of:
Mortgage loan, credit card or any other loan
Trade invoice
Employees earned salary
Coupon rate or Principal amount (Govt Bonds)
Insolvent insurance company fails to pay policy obligation Insolvent bank fails to refund deposits
Government grants bankruptcy protection to an Insolvent Company
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Investors are compensated for risks taken bythe way of interest payments (yields)
The yields correlate strongly to the perceived
risk the perceived risk the rate of interest
demanded by the investor Credit risks are calculated on borrowers
ability to repay and it includes: Collateral assets
Revenue generating ability
Credit ratings assigned
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TypesTypes
ofofCreditCreditRisksRisks
DefaultRisk
CreditSpread Risk
DowngradeRisk
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Credit ratings Bond Price
the ratings the risk
Such risk arises due to deteriorating financial condition of the
concerned company
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Deterioration in the credit standing of bankscounterparties
Effective management of credit risk for long termsuccess of any banking organization
Sources of credit risk exist throughout the activities
of the bank
Learn from past experiences the need to identify,measure, monitor & control credit risk
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Sound practices to be undertaken in
following areas:
Establish appropriate credit risk environment
Operate under sound credit granting process
Maintain appropriate credit administration,
measurement & monitoring process
Ensure adequate control over credit risk
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Credit risk management chosen by
supervisors must be appropriate
Stipulation of the Basel Committee
Credit risk related to the process of
Settlement risk
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There are two primary types of models:
1. Structural Model2. Reduced Form Model
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Structural Model Use evolution of firms to
determine time ofdefault
Endogenously generated
within the model
Value of firms assets &liabilities at default will
determine recovery rates
Reduced Form
Model
Relation between firm value& default are not considered
Exogenously generated
Specific recovery rates
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Pre settlement risk Banks should have a system to quantify pre-settlement risk
Techniques have evolved from using:
- the full notional amount of the contract,-to a percentage of the notional amount,-to loan equivalent estimates.
-Banks now employ highly sophisticated computer models
Credit risk in a derivative product is a function of severalfactors:-type of contract, cash flows, price volatility, tenor
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Exposure at the beginning of a contract is usually at or near
zero
Most deals are done at market prices and most derivativecontracts do not involve an exchange of principal
After inception, the expected risk increases or decreases toreflect the impact of changing price factors
The longer the contract, the greater the potential for ratemovements and, hence, a change in potential exposure
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Credit risk is generally reduced over the life of thecontract because :
i. Interim cash flows reduce payment uncertainty
ii. Shorter the remaining life of the contract the less potentialthere is that significant adverse rate movements will occur
Method used to measure counterparty credit risk
should be commensurate with the volume and levelof complexity of the derivative activity
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Dealers and active position-takers have
access to statistically calculated loan-
equivalent exposures, which represent-the current exposure (replacement cost) plus
-an estimate of the potential change in value overthe remaining life of the contract
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Settlement Risk
The cumulative amount of funds or assets deliveredfor payment
Duration of an individual banks settlement
exposure will depends on:- the characteristics of the relevant paymentssystems-on the banks internal reconciliation procedures
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Banks maximum settlement exposure could
equal, or even surpass, the amount receivable
for three days worth of trades
FX transactions, in particular, involve a higherdegree of settlement risk because the full
notional value is exchanged
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Banks can reduce settlement exposure bynegotiating their correspondent arrangements to
reduce the amount of time they are exposed to noncancellable payments awaiting settlement
Banks should review the time necessary for
reconciliation of payment receipt
Reducing the time it takes to identify final and failedtrades will reduce settlement exposure
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Significant resources and sophisticated programs are used toanalyze and manage risk
Companies run a credit risk department whose job is toassess the financial health of their customers, and extendcredit (or not) accordingly
May use in house programs
Use third party provided intelligence Companies likeStandard & Poor's, Moody's Analytics and Fitch Ratingsprovide such information for a fee
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Most lenders employ their own models (credit scorecards) to
rank potential and existing customers according to risk, andthen apply appropriate strategies
Credit risk has been shown to be particularly large andparticularly damaging for very large investment projects, so-
called megaprojects
Such projects are especially prone to end up in what hasbeen called the "debt trap,"
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Sovereign risk
The risk of a government becoming unwilling or
unable to meet its loan obligations, or reneging on
loans it guarantees
The existence of sovereign risk means that creditors
should take a two-stage decision process whendeciding to lend to a firm based in a foreign country
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Five macroeconomic variables that affect the
probability of sovereign debt rescheduling
are:i. Debt service ratio
ii. Import ratio
iii. Investment ratioiv. Variance of export revenue
v. Domestic money supply growth
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Counterparty risk The risk that an organization does not pay out on a bond,
credit derivative, credit insurance contract, or other trade or
transaction when it is supposed to
Even organizations who think that they have hedged theirbets by buying credit insurance of some sort still face therisk that the insurer will be unable to pay, either due to
temporary liquidity issues or longer term systemic issues
Large insurers are counterparties to many transactions, andthus this is the kind of risk that prompts financial regulators
to act, e.g., the bailout of insurer AIG
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Efforts taken to reduce the probability or
consequences of a threat
Types
physical measures (protective fences)
financial measures (stockpiling cash, insurance)
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Necessary to mitigate risk in order to achieve
the greatest degree of success
Risk assessment allows
mitigate risk to a level that you feel comfortableliving with
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Risk-based pricing
Covenants Credit insurance and credit derivatives
Tightening
Diversification
Deposit insurance
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Default risk - risk that an organisation does
not pay out on its receivables to the
supplying firm when it is due
Influences the credit worthiness of a sourcefirm
Gives rise to credit risk
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Buyer-backed supply chain financing, or BSCF
Credit assessment of the client
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Situational
Letter of credit present
Letter of credit not present
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Make a written exception
Hold the carrier liable for damage by registered letter
Do not get upset, when the carrier rejects the claim
Do NOT DEDUCT your claim from freight and or duty
charges payable to the carrier or the forwarder
Inform your insurance company
Invite every party involved to make a survey on the
damaged cargo
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IMPORTANT: The Insured, the consignee or
others on their behalf, are always bound to
protect the recovery action of the Insurers inrespect of those who are responsible for the
loss and/or damage and to interrupt theperiod of prescription according to the terms
of Law.
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Make sure to take out a cargo insurance
Remember an ALL RISK insurance does not
cover every risk!
Know the conditions of carriage and liabilities
of the NVOCC who is responsible for your
goods
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Essential that each bank develops its own
credit risk strategy.
Credit risk strategy should provide continuity
in approach.
Different credit risk policies & procedures fordifferent sectors.
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Procedures to ensure that all risks associated
are promptly and fully evaluated by therelevant lending and credit officers.
Procedures and systems which allow formonitoring financial performance of
customers.
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Banks should have written credit policies
Credit risk management practices
The level of authority required to approve credit
will increase as amounts and transaction risks
increase.
Consistent approach toward early problem
recognition, the classification of problem
exposures, and remedial action.
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Create individual group for risk management.
Full authority to be given to the team.
The credit risk strategy and policies should beeffectively communicated throughout the organisation.
Depending on the size of the organization, constitute a
high level Credit Policy Committee also called CreditRisk Management Committee or Credit Control
Committee
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In ICICI Bank this department is managed and
taken care by Credit Risk Compliance & AuditDepartment (CRC & AD).
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Review of Credit Origination & Monitoring:
Checking the Credit rating of companies/structures
Analysing Default risk & loan pricing
Review of industry sectors
Review of large exposures in industries/ corporate
groups/ companies
Ensuring Monitoring and follow-up by building
appropriate systems.
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Designing appropriate credit processes,
operating policies & procedures.
Focussed attention to structured financing deals
Monitor adherence to credit policies of RBI
Portfolio monitoring
Designing a Methodology to measure portfolio risk
Developing Credit Risk Information System (CRIS)
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For instance, Companies issue bonds whichcan be traded in the secondary market. A
credit rating for an issuer takes into
consideration the issuer's credit worthiness(i.e., its ability to pay back a loan), and affects
the interest rate applied to the particular
security being issued. If a company is given agood rating, it can get loans at a lower rate ofinterest
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Credit ratings are used by investors, issuers,
investment banks, broker-dealers, andgovernments.
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Do not downgrade companies fast enough
Good relationship with companymanagement
Engaging in heavy-handed "blackmail" tactics
Accused of being oligopolistic
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Errors of judgment in rating structured products
Lower quality loans when pooled together in a
CDO, were given AAA rating
Conflicted in assigning sovereign credit ratings
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It is India's leading Ratings, Research, Risk and
Policy Advisory Company based in Mumbai.
CRISILs majority shareholder is Standard &Poor's, a division of The McGraw-Hill Companies.
Largest number of rated entities and ratingproducts: CRISIL's rating experience covers more
than 24654 entities, including 14,500 small and
medium enterprises (SMEs).
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CRISIL offers domestic and internationalcustomers with independent information,opinions and solutions related to credit ratings
and risk assessment; energy, infrastructure andcorporate advisory; research on India's economy,industries and companies; global equity research;fund services; and risk management.
IREVNA is the off-shoring Knowledge ProcessOutsourcing arm of CRISIL, with niche analyticalskills to cater to financial analysis.
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RatingsCRISIL is the largest credit rating agency in India.CRISIL pioneered ratings in India more than 20
years ago, and is today the undisputed businessleader, with the largest number of rated entitiesand rating products: CRISIL's rating experiencecovers more than 37000 entities, including17,000 small and medium enterprises (SMEs). As
on December 31, 2010, they had more than12,000 ratings (including over 6000 SMEs)outstanding.
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CRISIL ResearchCRISIL Research is India's largest independent research house.Through constant innovation, and comprehensive researchofferings covering economy, industry, companies CRISILResearch meets the requirements of more than 750 Indian andglobal clients. Apart from off the shelf research reports, CRISILalso provides incisive, customised research that allows clientsto take informed business and investment decisions.Comprehensive research coverage on over 65 industries and150 corporates makes CRISIL a preferred service provider to -
90% ofIndia's commercial banks 4 of the world's largest consulting firms All the leading brokers, investment banks and private equity
players
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CRISIL Capital MarketsCRISIL is an eminent player in the capitalmarkets space with detailed perspective covering
both debt and equity markets. CRISIL's capitalmarket offerings can be categorised under equityresearch, initial public offer grading, mutual fundservices, and fixed income services. Additionally,
CRISIL provides customised research solutions aswell.CRISIL Equities Offerings
CRI
SI
L Fund Services
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Global Off shoring (IREVNA)It is the world's top-ranked Knowledge Process Outsourcingfirm, focused on the global financial services industry. Withover 1400 employees, 75% of whom hold advanced degrees infinance, accounting and management, across 7 officesworldwide, Irevna supports the world's leading commercial andinvestment banks, insurance companies, corporations,consulting firms, private equity players and asset managementfirms.Irevna has served more than 200 financial services firms and
enjoys strategic relationship with: 11 of the top 15 global investment banks
2 of the top 10 consulting groups 3 of the top 10 Asset Management Companies
3 of the top 15 insurance companies
Several fortune 500 companies
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Infrastructure AdvisoryIt provides practical and innovative solutions to governments, donorfunded agencies and leading organizations in over 20 emergingeconomies across the world to: Transform efficiency of public institutions and sector
Design and strengthen reform programmes to catalyse privatesector participation Improve infrastructure service deliverySome of the key assignments executed : CRISIL Infrastructure Advisory strategized the takeout finance scheme - a
method of making long term debt financing available to large infrastructure
projects forIndia
Infrastructure Company Ltd (
IIFCL).
CRISIL Infrastructure Advisory's Energy Practice has designed andimplemented first of its kind novel Electricity Distribution FranchiseeContract in Maharashtra.
Effective April 01, 2007, CRISIL transferred its advisory and riskconsulting business into a wholly owned subsidiary, CRISIL Risk andInfrastructure Solutions Ltd (CRIS).
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CRISIL Risk Solutions
It provides comprehensive risk management services tobanks, financial institutions, and corporates across allareas of risk including: credit, market and operational. In
addition to providing innovative software products, it alsoextends consultancy services and analytical insights,which are focused on helping customers become Basel II-compliant.Ranked as the No. 1 Risk Solution provider in the last
Indian Banks' Association (IBA) Finsight media survey,CRISIL Risk Solutions has delivered risk solutions to about50 financial institutions in India and abroad and has largestuser base of more than 100000 users. CRS's flagshipproduct RAM is the largest deployed Internal risk rating
solution inIndia.
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Symbol(Rating category)Description(with regard to the likelihoodof meeting the debt obligations on time)
AAA Highest Safety
AA High Safety
A Adequate Safety
BBB Moderate Safety
BB Inadequate Safety
B High Risk
C Substantial Risk
D Default
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Export Credit Guarantee Corporation ofIndia Limited.
Established on 31st July, 1957 by the
Government ofIndia. An export promotion organization which
functions under Ministry of Commerce &
Industry.
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Fifth largest credit insurer of the world in terms ofcoverage of national exports.
The present paid-up capital of the company isRs.900 crores.
Authorized capital Rs.1000 crores.
An ISO Organisation with 5 Regional offices and 51Branches .
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Provides a range of credit risk insurance covers toexporters against loss in export of goods andservices.
Offers guarantees to banks and financial institutionsto enable exporters to obtain better facilities fromthem.
Provides Overseas Investment Insurance to Indiancompanies investing in joint ventures abroad in theform of equity or loan.
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RiskAssociated
withExports
Political andEconomical
ChangesForeignbuyer
unable topay
Risk ofInsolvency
Balance ofPaymentproblems
Outbreak ofcivil war
Natural
Calamities &Emergency
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