Question

Define the application of the folllowing in terms of risk management in banks:

ratings-based approach

equity based approach

better credit portfolios

scenario analysis

Answer 1

Ratings based approach:

Internal ratings based approach to credit risk allows banks to model their own inputs for calculating risk weighted assets from credit exposures to retail, corporate, financial institution and borrowers subject to supervisory approval.

Equity based approach:

Credit portfolio:

Credit Portfolio is any collection of credit exposures that is formed as part of financial intermediation activities (e.g., regular Lending products or derivative contracts) or as an investment in Credit Risk sensitive securities (such as corporate bonds).

Credit portfolio management refers to the process of building a series of investments based upon credit relationships and managing the risks involved with these investments. Such a portfolio gains its value from the interest from issued loans but is susceptible to credit default.

Scenario analysis:

Scenario analysis is a process of analyzing future events by considering alternative possible outcomes. Thus, scenario analysis, which is one of the main forms of projection, does not try to show one exact picture of the future. Instead, it presents several alternative future developments.