The eurozone crisis, banking regulations and challenging
economies have raised the importance of risk management. As part of
their newly formed alliance, Mike Gordon, managing director at FICO
in EMEA, and Shawn Holtzclaw, managing director at Equifax UK,
examine the stimuli the banking sector needs.
The past two
years have been anything but ideal for the banking industry and the
challenging times are set to continue. High delinquency levels,
declining credit usage and regulatory restrictions all restrict
profitability while banks are pressured to extend credit in order
to fuel economic growth. Housing markets have not stabilised to the
degree hoped, and sovereign debt and bailout issues across Europe
continue to cause headaches.
As a result, bank stocks in many
regions have suffered.
To complicate matters further, the
relationship between banks and their customers has seriously
eroded. In FICO and Efma’s most recent survey of credit risk
managers across Europe, 47% of respondents said their customers are
more likely to mistrust the bank.
Where can growth come from in this
unhappy situation? First and foremost, it has to stem from a more
profound understanding of the consumer today and tomorrow – not the
consumer of the past. The dramatic change in consumer behaviour
patterns requires new analysis with fresh tools. Across Europe, we
see this imperative driving initiatives aimed at ensuring
responsible lending, satisfying customers and ultimately building
The most successful plans start
with the old adage: know your customer. Here are some ways this can
Know more about your customer
The commercial pressure of the
economic downturn requires lenders to build a more complete picture
of a consumer.
Integrating data across product
lines and organisational barriers becomes increasingly important
given evidence that customers are more likely to want to deal with
the bank that holds their debit account.
This is why Equifax has developed
‘single customer view’ solutions that make it easier to aggregate
and use customer data from across the bank.
In addition, lenders are expressing
growing interest in evaluating a broader variety of external data
on every customer and applicant in order to strengthen their risk
A common practice which is already
followed by lenders in the US is to evaluate credit data from
multiple credit data repositories.
Multiple-bureau strategies can
optimise the quality of data and risk assessment, increasing
acceptance rates by between 10% and 15%. This approach is an option
that European lenders are now also exploring, in those markets that
have more than one credit bureau.
More rigorous risk decisions are
needed in the face of affordability rules, such as those proposed
by the FSA in the UK.
The proposal placed the onus firmly
at the door of lenders in determining consumer indebtedness and
This emphasis on responsible
lending now requires banks to ensure that supplied details are
correct and that the borrower can actually afford the repayments
before any credit is extended.
The Citizens’ Advice Bureau dealt
with over 9,000 new debt problems every working day in England and
Wales during the year ending March 2011.
Many of those unable to meet their
financial commitments may have been aware that they were stretching
their finances. However, it remains a perpetual challenge for
lenders to identify the customers and prospects who can – and can’t
– handle additional credit.
Being able to gain the right
insight into consumer commitments and fully understand not only
existing indebtedness but the impact of future changes in
circumstances, both within and outside their own control, is
therefore a hard-sought goal for banks.
To assess affordability, scoring
tools need to go beyond traditional income-based measures of debt
capacity, which can be a useful proxy but do not predict a
consumer’s risk if more debt is taken on.
Only by understanding the risk
implications of changes in consumer indebtedness before additional
debt is taken on can banks offer more credit to customers who can
manage it, while fulfilling the ‘fair treatment requirements’ to
One of the most difficult
challenges facing lenders today is how to deploy strategies that
will enable them to prosper in not only the current economic
environment but also in the next.
Regulations demand that lenders
‘future-proof’ their business, and not be caught unprepared by a
downturn. Risk management therefore requires decisions that will
make sense throughout the forecasted economic cycle. At the
consumer-lending level, it requires decisions that are made based
on an understanding of a consumer’s risk in the next economic cycle
– in other words, understanding how macroeconomic conditions such
as interest rate rises, inflation, house prices and unemployment
will affect credit risk.
The analytics community is rising
to this challenge.
And leading European lenders have
taken the lead by using credit risk scores married with economic
forecast indicies to identify potential pockets of healthy growth,
while meeting regulatory requirements for bigger capital
These initiatives need to form part
of a greater programme for lenders: forging a new bond with
It’s clear that while there is not a ‘new normal’ in banking,
the old normal is gone. Banks can’t wait for improvements in the
economy or the regulatory landscape to start using better customer
knowledge to build stronger ties with disenfranchised banking