the alta group round table tampa, florida
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The Alta Group Round Table Tampa, Florida. RISK MANAGEMENT ENVIRONMENT “Post” Financial Crisis. Risk Management Environment. What happened? Effect on our businesses Discussion--- What were the most effective steps your company took in the wake of the financial crisis - PowerPoint PPT PresentationTRANSCRIPT
The Alta Group Round TableTampa, Florida
RISK MANAGEMENT ENVIRONMENT
“Post” Financial Crisis
Risk Management Environment
• What happened?• Effect on our businesses• Discussion---
What were the most effective steps your company took in the wake of the financial crisis
How do you see the market and risk landscape today---trend, emerging risks, opportunities
Has your company’s overall business strategy ( as distinct from just credit policy) changed as a result of the crisis?
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Global Credit Environment
• PERSPECTIVE: about every 5-6 years, there has been a significant credit event;
1970’s: REITs and Lesser Developed Countries (Brazil) 1980/90’s: Savings & Loans, LBO/MBOs, Continental Bank, Herstatt Bank,
Long Term Capital Management 2000’s: Enron, Telecom Bubble 07/08: Sub-prime/Financial Crisis
• Concerns surfaced re U.S. $12 Trillion mortgage market in early/mid 2007
Slowing of growth, then decreasing values of residential real estate in the U.S.—now down 30+% in 20 largest US markets since July, 2006 peak (S&P)
Overall Residential Mortgage Delinquency rate up sharply For sub-prime( apx $1.25-1.5T), the delinquency rate is running 25%+ Many mortgages rolled into securitized instruments—CLO, CDO’s and are
widely held----and insured by major credit insurers Losses damaged capital, caused financial firms failure Problems spread to consumer credit cards and commercial loans Leveraged loan default rate, about 2% in 2008, to peaked at 14%
+ by 4Q 09. • Tremendous disruption and damage to financial system
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Moody’s Mortgage Performance
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Crisis “Root Cause” still being debatedMacro Framework
• Housing market Housing Bubble/Foreclosures Sub-Prime
lending( underwriting, fraud, down payments/negative equity)
• Risk taking behavior Consumer/Household Borrowing Equity extraction Speculation Risk underwriting/leverage--
Corporate • Financial market factors
Innovation Ratings inaccuracy Modeling Off balance sheet financing Regulatory avoidance Sector concentration
• Macro factors Interest rates Trade Deficit
• Capital market pressures Capital looking for yield
• Regulation and Deregulation
• Commodity Price Volatility • Inaccurate economic
forecasting • Monetary expansion • Mark to Market Accounting • Interaction of the Housing
and Financial markets
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Crisis “Root Cause” Credit Risk Management Framework
Financial industry drive for growth
Supported by excess liquidity Parallel focus on E/R
measures pressuring non-revenue producing functions, like RM
Complacency Declining loss rates 2002-
2006 New tools, liquidity pools,
asset values “old rules don’t apply”
“Outsourcing” Credit Responsibility
External assessments( bank sponsor, rating agency) replaced internal decisions
Conflict between evaluating and selling risk
Many financial business now revolve around ability to securitize or syndicate
Key skill becomes marketing of risk
Retention became subordinate to marketing
Importance of internal risk assessment diminished
• Lack of experienced management in RM
Market speed and instrument complexity reduced senior management involvement in deal flow
• Policy/Strategy/Controls Reduced RM input to business
direction Shift to syndication from retention Process design focus shift to
origination/syndication
• Operational Effectiveness E/R pressures Resources shift to selling deals Speed/complexity diminished
experienced senior management involvement in deal flow---no benefit of their experience
• RESULT: BIG PROBLEMS IN MANY LENDING ORAGNIZATIONS
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Defaults/Losses/Delinquency starting to abate
• Default rates in bonds/loans moderating, but still high historically
• ELFA ageing metrics also improving
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Risk Appetite Slowly Returning---esp for larger companies
• New issuance of bonds and loans to lesser credits increasing, although substantial portion is refinancing
• Risk spreads gradually returning to “traditional” levels
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Terms and Conditions Still Tighter
• HY loan originations less likely to carry very lenient terms and conditions
• Federal reserve survey shows some easing of tightening trend by larger banks---credit availability still an issue for smaller companies
PERIOD NET PERCENT TIGHTENING
2Q 07 -3.7%
2Q08 +55.4%
2Q09 +39.6%
2Q10 -7.1%
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Comparison of Delinquency/Loss Rates
Sector Size Delinquency Delinquency Baseline-est.
C&I Loans $9.2 T 4.49%(4Q09)
2.5%
ELFA MLFI $518 B 4.20% (1Q10)
3.5%
Credit Cards $864B 4.5%(1Q10) 1.5-2.75%
Mortgages-Prime
$11T 6.73% (1Q10)
3%
Sub-Prime $1.25-1.5 T 25.2% (1Q10)
5-7%
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Medium/Long Term Effects
• Many Banks and Financing companies damaged• “Risk Aversion” atmosphere may persist for many quarters, if not
years• Terms/Conditions and pricing spreads now favoring the creditor• Many borrowers be squeezed out of the market—debt vs equity
risk paradigm• Increased regulation/control/taxation of Financial institutions—
limits on growth• Economic outlook less robust---recession in developed/OECD
countries slowly ending—unemployment levels high--country risk increased
• “De-leveraging”-banks, corporations and consumers• Effect of government stimulation efforts—increased taxes,
potential inflation• Increased role of Government Sector in U.S. economy• Potential pressure to “de-globalize”• Additional, non-crisis related factors to consider in risk
management for the future U.S./Western Europe ageing population—impact on labor markets,
social services, immigration policy and consumer spending “Green” impetus---impact on energy policy, government tax/spending,
regulation, new market segments Economic Competition between U.S./developed countries and China—
political spillover, commodity prices, cross border investments, China as creditor/investor nation
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Key Elements of a Strong Risk Culture
• Risk management positioned as integral part of business Fixed in corporate priorities Regular input to overall business direction Risk appetite, risk/reward balance well articulated
• Robust RM infrastructure and documentation Policies Processes
• Attitude of taking full responsibility for RM results Agency Ratings and sponsor/lead bank endorsements as inputs, not
substitute for own decision making Retaining vs selling risk
• Active participation by Senior Management in design and operation of risk management
Knowledge of deal flow Included in approval process
• Periodic senior management review of “common sense” level of risk/reward levels---Stress testing/sensitivity—macro and company specific
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Business Strategy & Objectives
Feedback
Credit Policy & Methodology
Asset Management:Accounts Receivable,
Loans/Leases and Other Exposures
Credit Assessment & Structuring
Portfolio Performance Measurements
Systems Strategy&
Audit/Business Controls
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Managing Risk –Policy/ProcessWhat has been happening at financing
organizations?
• Policy Reviewing business plans and credit policies in view
of recent events and organization’s risk appetite Deselecting segments/geographies/business lines
(eg SMB, Vendor Financing) Re-evaluating concentration issues Evaluating effectiveness of the Risk Management
function—coverage, methodologies, forecasting, protections, speed to recognize issues, reserving process/assumptions
Taking a more Enterprise Risk approach Stress testing the business
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Managing Risk –Policy/Process What has been happening at financing
organizations?
• Credit Approval Process Tightening Credit approval process Increased info/disclosure requirements on new deals Re-scoring automated models and manual
scorecards/upping the bar Decreasing Delegation Managing down lines of credit More Senior Management Reviews Reviewing all contract and collateral documentation Tighter terms and conditions Higher pricing Sensitivity to Fraud
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Managing Risk –Policy/Process What has been happening at financing
organizations?
• Receivables and Portfolio Management Increased “stress testing” Re-assessing/re-grading credit portfolios for
action and reserving Portfolio sales/exits Concentration framework/metrics Assessing/improving adequacy of AR and workout
staffs Increased frequency and intensity of customer
contacts Keeping senior management informed of all
issues
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DISCUSSION QUESTIONS
• What were the most effective steps your company took in the wake of the financial crisis
• How do you see the market and risk landscape today---trend, emerging risks, opportunities
• Has your company’s overall business strategy ( as distinct from just credit policy) changed as a result of the crisis?