Credit Models and the 100-Year Risk Storm

Coming into the year 1900, things looked amazing for America.  Just a few years earlier the Dow Jones Industrial Average was established, Coca-Cola© was first sold in bottles, Aspirin was invented, and the Boston Marathon was held for the first time.  America was more powerful than ever and was on the move.  Nevertheless, if you lived on the coast, you always had a slight chance of a tropical storm or at worst a hurricane – but it was only a chance.  Sadly, the city of Galveston, Texas lost the roll of the meteorological dice and suffered what was the most deadly hurricane in U.S. history.

Now fast-forward to today.  We are experiencing one of the longest recoveries of the U.S. economy, but there are some economists and forecasters saying there is a storm out there.  The great news, though, is that since the Great Recession of 2008, financial institutions have upped their game.  As an industry, we have so much better technology, models, stress testing practices, governance, etc. than we had before 2008.  As Brian Moynihan, the CEO at Bank of America stated at the Risk Management Association’s Annual Conference last week, to gain the operational excellence that every bank or credit union wants, “we have to believe in the models”.  I totally agree with him and we at Baker Hill see successful banks leveraging our technology and credit risk insights every day.  However, what I thought was interesting was that Mr. Moynihan finished his comment with, “…but what if the 100-year storm is tomorrow?”.

Those kinds of extreme credit and risk events just cannot be predicted…so what do you do to make sure your institution is ready?  Let me suggest a few things:

First, build and collaborate within your organization.  Leverage technology that tears down silos and brings the organization together rather than forcing a business unit to take on risk by itself. Share insights and train up your risk management capabilities. There is strength in numbers when an organization pulls together to see the 360-degree view on risk, leaving your financial institution better prepared.

Second, automate all you can.  This may seem counterintuitive since I just said that models cannot predict that 100-year storm – true, but when the storm is on you, any earlier work to automate will free up your resources to focus on more urgent and critical items.

Lastly, communicate and listen.  Moynihan also noted that he gives his presentation on risk and what his bank is willing to bear to all of his different direct reports and their departments about 10 times over a period of a couple weeks.  Repetition, communication, and good listening will go a long way.  For example, in the Galveston storm, a Cuban meteorologist knew the storm was coming toward Texas, but the then United States Weather Bureau chose not to listen.  Take time to learn what your bankers are saying and hearing during their client visits and see what kind of impact listening more acutely to your customers may have on building your portfolio.  Also, now is a great time to think about how you will account for and manage your portfolio – not when all things are breaking loose.

So while I see a lot of growth ahead of us, consider these suggestions, ask yourself how prepared you are for those 100-year credit storms, and as every great risk manager should do, always expect the unexpected.

Author Bio

With more than 25 years of experience in the financial services industry, Mike Horrocks possesses a unique and extensive blend of financial expertise, technology skills, process redesign abilities and solution management experience. Horrocks’ background enables him to create go-to-market strategies for new solutions, help clients convert strategies into revenue generating initiatives and forecast market direction.

As the Vice-President of Product Management at Baker Hill, Horrocks’ responsibilities include the identification and development of new market opportunities in the business of lending, risk management, and analytics for financial institutions. Mike holds a MBA both in International Finance and Venture Technology Management from Indiana University and a B.S in International Finance from Brigham Young University.

Before joining Baker Hill, he held executive positions within several other organizations, including Experian, Profit Technologies, SAIC, Broadway and Seymour (FIS), Zions First National Bank and Zions Data Corporation.

Horrocks is a member of many associations including the Risk Management Association and Bankers Without Borders. In his free time, he enjoys traveling internationally with his wife and five children.