Portfolio AnalysisPortfolio Analysis

Agribusiness FinanceAgribusiness FinanceLESE 306 Fall 2009LESE 306 Fall 2009

Externalities Affecting Externalities Affecting Portfolio Performance….Portfolio Performance….

Macroeconomic policy Farm program policy Trade policy Weather and disease Ability to pay in client nations Competitor nation actions

Macroeconomic ConditionsMacroeconomic Conditions Expensive imports (bad for Ag!) Gains in productivity (great for Ag!) Rising crude oil prices (bad for Ag!) Rising inflation (bad for Ag!) Low interest rates (great for Ag!) Rising unemployment (bad for Ag!) Weak stock market (bad for Ag!) Federal budget deficits (bad for Ag!)

Can You Assess the Impact Can You Assess the Impact of the Following Events…of the Following Events…

What if the country’s central bank adopts a tighter monetary policy?

What if we see a 20 percent increase in crude oil prices?

What if exchange rates with client nations rise?

What if effective income tax rates increase?

Impact of these events on..Impact of these events on..Impact of these events on..Impact of these events on.. Farm commodity prices Farm input prices Interest rates Net farm income Land prices and other asset values Off-farm income Debt repayment capacity

What is Stress Testing?What is Stress Testing?Ad Hoc stress testing

What is it?Strengths and weaknesses

Systematic event stress testingWhat is it?Strengths and weaknesses

Ad Hoc Stress Testing?Ad Hoc Stress Testing? Assume future revenue based

upon past prices, costs and yields changes by a certain percent.

Assume percent cut in income, land values, etc.

One year focus. Easy to do.

Event Stress Testing?Event Stress Testing?Pro forma analysisImpact of future events:

Farm policy Macroeconomic policy Events in client

nations Competitor nation

actionsLooking down the road

What are the differences?What are the differences?Ad Hoc Stress TestingAssume a change

commodity pricesAssume a change in

input pricesAssume a change in

land valuesAssume a change in

wages and salaries

Ad Hoc Stress Testing

What are the differences?What are the differences?Ad Hoc Stress TestingAssume a change

commodity pricesAssume a change in

input pricesAssume a change in

land valuesAssume a change in

wages and salaries

Event Stress TestingUse projections from

econometric models that have significant probability of actually occurring

Can address “What if” questions associated with potential events

Ad Hoc Stress Testing Event Stress Testing

PASTPRESENTPRESENT

Rear View

Mirror

Rear View

Mirror

PAST FUTUREPRESENTPRESENT

Historical analysisComparative analysisCredit scoring modelsAd hoc stress testing

PAST FUTUREPRESENTPRESENT

Rear View

Mirror

Rear View

Mirror

WindshieldWindshield

PAST FUTUREPRESENTPRESENT

Historical analysisComparative analysisCredit scoring modelsAd hoc stress testing

Pro forma analysis of “likely” trends over time

FUTURE

PAST FUTUREPRESENTPRESENT

Historical analysisComparative analysisCredit scoring modelsAd hoc stress testing

Pro forma analysis of “likely” trends over timeEvent stress testing designed to address key “What if” questions

FUTURE

Historical Pro forma

In Portfolio Analysis Terms.....In Portfolio Analysis Terms.....

Why Event Stress Testing?Why Event Stress Testing?

Tied to specific events that have a reasonable likelihood of occurring.

Management can respond to likely events rather than hypotheticals!!!

Consistent accounting of impact on all economic variables.

Looking beyond the current year when assessing term debt repayment capacity.

What to Watch For...What to Watch For...Nature of global economic bounce

and what this means:Agricultural export demandCost of imports

Central bank reactions to any buildup in inflationary expectations.

Rising input costs as suppliers pass on their costs to producers.

A Portfolio A Portfolio Analysis ModelAnalysis Model

Purpose of ModelingPurpose of Modeling

Assess portfolio’s performance at the segment level.

Identify problem loans within that segment.

Develop benchmarks for use in evaluating new loan requests and performance of existing borrowers against the benchmark.

Wheat

SE Texas

Acceptable

Less than $250K

Segment Design...Segment Design...

Primary Commodity

Location

Loan Classification

Size

Wheat

SE Texas

Acceptable

Less than $250K

This Segment Represents....This Segment Represents....

Loan volume$6,558K

=

Building segments representing specific groupsof accounts in the agricultural loan portfolio

Building segments representing specific groupsof accounts in the agricultural loan portfolio

Choice of crop yield shocksChoice of crop yield shocks

Setting loan quality indicators for liquidity,solvency and debt repayment capacity

Setting loan quality indicators for liquidity,solvency and debt repayment capacity

Designing and running of new scenarioDesigning and running of new scenario

Bringing up the results screen to viewresults of scenario

Bringing up the results screen to viewresults of scenario

Design of MultipleCriteria Segment

Design of MultipleCriteria Segment

Cutoffs forIndicators of

Liquidity, Solvencyand Debt

RepaymentCapacity

Cutoffs forIndicators of

Liquidity, Solvencyand Debt

RepaymentCapacity

Maximum Ratio of CarryoverDebt-to-Equity: set by user

Maximum Ratio of CarryoverDebt-to-Equity: set by user

Searching for those loans that do not meet these standards…

Searching for those loans that do not meet these standards…

Simulation done in 2000Simulation done in 2000

Focus on one primary commodity…cottonFocus on one primary commodity…cotton

Loan quality indicators settings

Loan quality indicators settings

An account falling belowlender set indicator levels

An account falling belowlender set indicator levels

Farm Credit System Loan Classification Farm Credit System Loan Classification

The goal of the portfolio manager and credit officers is to make loans that grade out as “acceptable”, or exceed credit standards. All other classes require additional attention by the credit officer making the loan to determine reasons for weak performance and assess prospects for improvement.

Portfolio Analysis ProcessPortfolio Analysis Process