Concentration in lending:commercial vs financial

creditsLucia Gibilaro

Lecturer of Economics and Management of Financial IntermediariesUniversity of Bergamo – Faculty of Economics

and

Gianluca MattarocciLecturer of Economics and Management of Financial Intermediaries

University of Rome “Tor Vergata” – Faculty of Economics

Research questions

Which are approaches allowed to measure concentration risk?Could differences among commercial and financial credits impact on concentration measures?Looking at Italian market, are there differences on concentration estimates for different types of financial instruments on the basis of criterion adopted?

Structure

IntroductionSingle name concentration vs sectoral / geographical concentrationThe characteristics of financial and commercial creditsEvidence from the Italian marketFinal remarks

Introduction

Pillar I“… limits are established on the basis of the risk

exposure and of the amount of lending offered to each counterparty …” (Bank of Italy, 2006)

Pillar II“ To define the amount of economic capital, Banks

and financial groups estimate or evaluate all risk exposures using methodologies that fit the best…” (Bank of Italy, 2006)

Structure

IntroductionSingle name concentration vs sectoral / geographical concentrationThe characteristics of financial and commercial creditsEvidence from the Italian marketFinal remarks

Single name vs sectoral / geographical concentration (1/2)

Single name concentration considers non-systematic risk linked to specific characteristics of counterparties

The relevance of this type of risk could be explained by:

the collusion risk; the risk of illiquidity of assets.

Single name vs sectoral / geographical concentration (2/2)

The impact of macroeconomic dynamics on each counterparty is influenced by the characteristic of the context where the enterprise works (sector and / or geographical area)

Diversification on the basis of geographical and sectoral aspects allow to reduce the overall risk of lending portfolio but too much diversification implies an high level of screening and monitoring costs

Structure

IntroductionSingle name concentration vs sectoral / geographical concentrationThe characteristics of financial and commercial creditsEvidence from the Italian marketFinal remarks

The characteristics of financial and commercial credits (1/2)

Financial credits

Financial determinants

- Rating- Assets- Guarantees- etc…

Commercial credits

Financial determinants+Real determinants

- Guarantee of product quality- Price discrimination tool- Enhancement of customers

loyalty- etc…

The characteristics of financial and commercial credits (2/2)

The single name approach fits the best to estimate the concentration risk for commercial credits if the role of financial determinants prevails

Some empirical evidences demonstrate that commercial credits are more single name concentrated respect to financial onesIf there is a difference in single name concentration, it must be considered a signal of higher risk of these types of lending or it is only related to the contract characteristics

Structure

IntroductionSingle name concentration vs sectoral / geographical concentrationThe characteristics of financial and commercial creditsEvidence from the Italian marketFinal remarks

Evidence from the Italian market (1/7)

Sample

Financial CreditsOfficial statistics

Source: Bank of Italy data

Commercial CreditsFactoring as a proxy of commercial credits

Source: Assifact data

Time horizon: 2003 – 2006Frequency of data collected: quarterly

Type of data collected:- Amount of overall credit classified for sector and geographical region- Exposure to Top customers - Default

Evidence from the Italian market (2/7)

Methodology

Single name concentration

Sectoral / geographical concentration

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Gini index Entropy index Relative distance index

Evidence from the Italian market (3/7)

Mean CR

RangeCR

Factoring companies

12.40% 26.57% - 4.89%

Banks 7.01% 8.33% - 6.25%

Single name concentration

Biggest banks 12.19% 14.37% - 10.31%

Big banks 10.65% 12.33% - 9.71%

Medium banks 11.22% 12.52% - 10.25%

Small banks 9.52% 10.56% - 8.75%

Smallest banks 6.01% 7.12% - 4.13%

Evidence from the Italian market (4/7)

Statistics

Counterpart evaluated

OverallTransferor

Pro-solvendo

Transferor Pro-solvendo

Debtor Pro-soluto

Number of defaults for big exposures respect total number

Mean 2.34% 0.12% 3.75% 0.86%

Range0.00% - 15.67%

0.00% - 1.47%

0.01% - 16.14%

0.00% - 6.07%

Amount of defaults related to big exposures respect to overall defaults

Mean 3.69% 1.23% 3.15% 1.31%

Range1.00% - 10.00%

1.00% - 3.00%

1.00% - 7.00%1.00% – 2.00%

Defaults and single name concentration

Evidence from the Italian market (5/7)

Gini Index Entropy index

Mean Range Mean Range

Financial credits Overall 68.18% 69.41% - 66.51% 74.62%73.56% - 76.03%

Commercial credits

Overall 71.04% 71.91% – 70.36% 72.55%41.41% - 81.07%

Pro-soluto 66.01% 64.78% - 66.90% 72.59% 43.70% - 79.64

Pro-solvendo

77.33% 76.15% - 78.90% 76.96%71.48% - 87.58%

Relative distance index for

commercial credit respect to

financial credits

Mean RangeRegions with higher

and lower differences

Overall 36.26% 0.05% - 92.13% Lazio – Molise

Pro-soluto 24.05% 0.10% - 96.84% Toscana – Molise

Pro-solvendo

24.62% 0.04% - 95.21% Lombardia – Molise

Geographical concentration

Evidence from the Italian market (6/7)

Gini Index Entropy index

Mean Range Mean Range

Financial credits Overall 45.91%50.15% - 41.89%

86.36% 89.37% – 82.73%

Commercial credits

Overall 53.22%59.04% - 46.98%

68.36% 69.09% - 67.10%

Pro-soluto 53.64%57.87% - 47.70%

72.89% 73.82%-72.15%

Pro-solvendo

56.43%63.24% - 49.73%

62.69% 63.08% - 59.75%

Relative distance index for

commercial credit respect to financial credits

Mean RangeSectors with higher and

lower differences

Overall 44.55% 0.18% - 99.48%Accommodation and public service

– Metals and Minerals

Pro-soluto 43.11% 0.32% - 42.21%Accommodation and public service

– Chemical Manufacturing

Pro-solvendo

42.21% 0.09% - 99.84%Accommodation and public service

– Other industrial products

Sectoral concentration

Evidence from the Italian market (7/7)

Defaults and sectoral / geographical concentration for commercial credits

Coherence between starting exposure and

defaults for each category

Coherence between starting exposure and defaults for group of

categories

Media Max Min Media Max Min

Sectoral classification 13.16% 26.32% 5.26% 92.54% 94.74% 78.85%

Geographical classification

9.21% 21.05% 0.00% 50.00% 63.16% 36.84%

Structure

IntroductionSingle name concentration vs sectoral / geographical concentrationThe characteristics of financial and commercial credits Evidence from the Italian marketFinal remarks

Final remarks

Commercial credits are structurally more concentrated respect to financial onesHigher level of single name concentration for commercial credits does not impact on the riskiness of lendingsGeographical and sectoral concentration in commercial credits are better proxies for the riskiness of counterparties’ portfolios

Thanks for your attention

Contact information:

Gianluca Mattaroccie-mail gianluca.mattarocci@uniroma2.itTel. +390672595930