We asked George what his thoughts are on credit and risk analysis:
Information is a critical factor in any decision making process. Whether an economy is in good or bad times, a credit analyst must develop a complete picture that is based not only upon the specific financial ratios of a transaction but also considers other factors which includes but not limited to:
- the financial capacity and historical payment history of the borrower
- the current risk/volume appetite of the lender
- changing market & regulatory conditions
Credit analysis should establish a ”financial snapshot” of a transaction at a point in time which will enable the underwriter to draw a conclusion as to establishing a likely default risk level which is necessary for proper pricing.
Supervision
In my opinion, the most important aspect to consider when managing a new or junior credit analyst, is the cultivation of a more rounded credit decision process. Analyzing cash flows and financial ratios provide important factors to consider but don’t necessarily paint a complete picture. The analyst must take the time to consider all of the facets of the transaction which will provide the analyst with sufficient information to form an informed decision which can be supported with meaningful analysis.
Effective management of risk is critical to ensure an organization’s leadership role in the financial services industry.
Risk should be minimized to the level where it becomes acceptable for the organization. The key word is minimized and not totally avoided. Total risk avoidance is not only impractical but it is often not good business sense. The most profitable and well run organizations are not those that try to avoid or do away with risk completely but those organizations that have learned how to manage risk at its optimal level.
Managing risk effectively requires proper risk training and education, risk definition, and risk identification so risk can then be minimized and managed. In order to ensure that the organization members are properly trained and educated to manage risk, every member must understand the organization’s definition of risk and then how to identify it.
Defining Risk
Finding an accurate definition of risk has plagued many organizations. If the definition fails to cover a certain event, and that event contains risk, the definition can be incomplete. If the definition involves a certain event and that event does not contain risk, then that definition is inaccurate and inefficient as well.
The best way for an organization to define risk is to start with the very broad concept and refine it downward, akin to an inverted pyramid or funnel. Begin with the big picture approach, where any function or event, no matter how small, that can achieve a result different from the desired one, contains risk. The risk may simply be the necessity to redo a task, or it may have broad financial ramifications. It doesn’t matter; both events contain risk. Once risk is defined this way, the next step is for each organization member to identify the risk in their respective areas. It will then be up to the experts (presumably one or more of the following: the risk managers, compliance people, appropriate senior and line management, the legal people, and auditors) in the organization to determine what level of risk should warrant action. Specifically, it must be determined at what point is it cost-effective to revise the function, install monitoring controls to warn of risk, raise the revenue requirements, or stop the action due to legal or civil liability, public relations issues, or unacceptable business risk. How to do this is the next challenge, but one that can be accomplished in three basic steps define the risk, identify the risk, manage the risk.
Great comments and thoughts George!
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