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Top 10 Pain Points in Managing Low Default Scorecards

For 29 years, David Letterman has been delivering his punch lines by the tens, in the now hallowed form of the Letterman Top Ten List.

To honor David Letterman’s retirement, we would like to pay tribute to his illustrious career by unveiling S&P Capital IQ’s own version of his famous Top 10 List.

One of the greatest challenges our clients face is how to manage low default scorecards. As such, we would like to present the Top 10 pain-points credit and risk managers often encounter:

No 10. Understanding the impact of parental and government support. There often is a material difference between a standalone credit profile and final credit score when factoring in the financial and operational support of a parent company or the likelihood of extraordinary support.

No 9. Mapping results to observed defaults. One of the primary goals for risk managers using scorecards should be to map to both their internal scales, as well as a third-party scales, such as S&P Capital IQ, to ensure a meaningful scoring output.

No 8. Producing a granular rating scale. Granularity is especially important at the weaker or lower end of the client scale.

No 7. Factoring in Country and Industry Risk. Systematic risk factors such as country and industry risk are playing an increasingly role in the final scorecard output.

No 6. Consider both baseline and stress default rates. During recessionary periods, defaults have historically increased by as much as 3 times, so analyzing these different scenarios provides a more complete picture.

No 5. Automating the spreading of financial data from a standardized, reliable source. The process of spreading financial ratios for public companies/banks can be a convenience.

No 4. Enabling analysts to understand and consistently score qualitative factors. Thorough analyst- friendly documentation and training reduces implementation risk by creating a replicable and transparent framework

No 3. Delivering developmental evidence about scorecard performance. Regulators and internal validation teams rely on documentation that identifies how the scorecard was developed, the scorecard limitations, use of data and performance of the scorecard.

No 2. Providing annual recalibration and validation. Best practice and many regulations suggest that scorecards be fully recalibrated and validated at least annually.

And, drum roll please… The Number 1 Pain Point in Managing Low Default Scorecards is:

Locating default data for low default sectors. Good Luck! By definition data for low default sectors is extremely limited - certainly not enough to build a robust scorecard. So methodologically, best practice suggests using a criteria-driven approach that can be linked to observable default rates.

Watch Bob Durante’s video to further explore these Top 10 challenges.

Click here to learn more about our Credit Assessment Scorecard solutions.

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