Measurement and estimation of credit risk in retail loan portfolio with reference to South Indian Bank
Risk is an integral part of the banking business and the Bank aims at delivering superior value to shareholders by achieving an appropriate trade-off between risk and return. Sound risk management and balancing risk-return trade-off are critical to a Bank’s success. Business and revenue growth have therefore to be weighed in the context of the risks embedded in the Bank’s business strategy. Of the various types of risks the Bank is exposed to, the most important are credit risk, market risk (which includes liquidity risk and price risk) and operational risk. The identification, measurement, monitoring and mitigation of risks, continued to be a key focus area for the Bank. The risk management strategy of the Bank is based on a clear understanding of various risks, disciplined risk assessment, risk measurement procedures and continuous monitoring for mitigation. The policies and procedures established for this purpose are continuously benchmarked with the best practices followed in the Industry. Credit risk is the risk due to the uncertainty in counterparty’s ability to meet its obligation. Because there are many types of counterparties from individuals to sovereign governments and many different types of obligations from auto loans to derivative transaction, credit risk takes many forms. A bank or a financial institution enters into a large number of financial transactions. In these transactions, the bank is exposed to a risk linked to a risk linked to the financial strength of the counterparty. Credit risk originates from the point where FI has completed its transaction and the obligation of counterparty starts. The process of measuring the credit risk for a portfolio of credit assets is different from the one used for a single loan because of the correlated between loans in a portfolio. Correlation reflects the extent to which loans tend to default simultaneously. This may happen because of macroeconomic factors like recession or interrelationships between the various credit assets. The effect of correlation may result highly skewed loss distributions. Such results are hard t find and so some models are used for measuring the credit risk of a portfolio:- * The Credit Risk+ Model
* The Credit Metrics Model
* The KMV Portfolio Manager Model
* The Modern Portfolio Theory
The South Indian Bank’s risk management structure is overseen by the Board of Directors. Appropriate policies to manage various types of risks are approved by Risk Management Committee (RMC), which provides strategic guidance while reviewing portfolio behavior. The senior level management committees like Credit Risk Management Committee (CRMC), Market Risk Management Committee (MRMC) and Operational Risk Management Committee (ORMC) develop the risk management policies and vet the risk limits. The Asset Liability Management Committee and Investment Committee ensure adherence to the implementation of the above risk management policies, develop Asset Liability Management Policy and Investment Policy within the above risk framework. Compliance with Basel II framework
The Bank has migrated to Basel II norms during Financial Year 2008-09. In tune with regulatory guidelines on Pillar I of Basel II norms, Bank has computed capital charge for credit risk as per the Standardized Approach, for market risk as per the Standardized Duration Method and for operational risk as per the Basic Indicator Approach. To address the issues of Pillar II, the Bank has implemented ICAAP (Internal Capital Adequacy Assessment Process) during the year integrating capital planning with budgetary planning and to capture residual risks which are not addressed in Pillar I like credit concentration risk, interest rate risk in the banking book, liquidity risk, earnings risk, strategic risk, reputation risk etc. Bank has adopted a common framework for additional...
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