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Chapter I:Theoretical aspects regarding the credit portfolio of a
commercial bank
1.1 Principles of credit activity management
All decisions regarding the credit activity process are based on the following
principles:
Compliance of legal requirements
Safety
Liquidity assurance
Profitability
1.1.1 Compliance of legal requirements
Compliance of legal requirements means performing the credit activity in the legal
framework provided by the legislation of the country in which the commercial bank
performs its activity. In the Republic of Moldova the following requirements
regarding the credit activity are set:
The net exposure undertaken by the bank vis--vis one person or a group of
people actioning together must not exceed 25% from its Total Required Capital
Maintaining the capital sufficiency coefficient at the required level of 12%
The participation of a bank to the social capital of a non-financial institution
must not exceed the stipulated level of 15% form the banks Total Required
Capital
The volume of credits launched to affiliated persons must not exceed the level
of 20% form the banks Total Required Capital
Banks must hold capital against 8% of their assets after adjusting their assets
for risk, according to the first pillar of Basel II
Banks must follow market discipline which is based on enhanced disclosure of
risk, according to the second pillar of Basel II
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Based on the restrictions imposed by the legislation as well as by the National Bank
and taking into consideration the economical conjuncture and the banks position in
the total banking sector, each bank tries to create its own credit policy.
1.1.2 Safety
The credit represents the main and the most profitable activity from the banks active
operations but at the same time it is the most risky one. That is why the credits must
be carefully analyzed using a series of specific techniques regarding the
reimbursement capabilities in due time stipulated in contracts.
Each bank assumes a certain degree of risk when launching a credit and, for sure,
each bank experiences the definite loss of some placements or of a late recovery of
them. That is why each placement must be thoroughly analyzed.
The placements made on the banking market are relatively sure, in the case when the
debtors are well-known banks. More than that, these credits are pledged with
government securities which mean a high level of safety.
The credits offered to the state or other state organizations are not a problem becauseas we know the state is the best debtor.
The credits launched to enterprises are exposed to a high risk of not being reimbursed
at maturity and this risk may happen due to three causes:
1. because of the debtor, mainly, because of its financial situation and of the
enterprises management abilities.
Any enterprise may find itself in a situation of not being able to pay the interest
on credits or even the credit itself which is a result of a bad management, of an
unpredicted situation, of a wrong estimation of its own risks or due to a hard
competition.
2. because of the national economy situation.
The macroeconomic instability highly influences the banking activity in
conditions when the economic growth and the rate of inflation are in a permanent
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evolution. In such a situation it is very difficult for a bank to evaluate the credit
risk.
3. because of the bank.
In the majority of cases, the problems regarding a portfolio of bad credits originate
in a poor management of the credit activity.
Analyzing the causes that lead to the failure of a number of banks, the following
main reasons were highlighted:
acceptance of overvalued mortgages
launching credits before performing and creating the credit file
the lack of cash flow analysis and of the ability of credit reimbursement
launching new credits to cover the afferent interest
the credit was used in other purposes than the one it was offered for
failure in mortgage valuation
ignorance of rumors and references regarding the clients credits at other
banks
launching the credit without complete documentation : feasibility studies,
marketing studies, authorizations ,contracts etc.
non observance of the rules regarding credit classification and creation of
specific reserves of risk
a wrong registration in accounting of some commitments
1.1.2 Liquidity assurance
The banks necessities of liquidity represent the immediate payments that the bank
must perform, such as: deposits withdrawal, the demand for new credits that the bank
has to satisfy in order to maintain its market share and other current payments that
need to be honored.
Some factors tend to impose placements with a longer maturity than the banks
resources. One of these factors is the clients wish to be offered long term loans,
anticipating the evolution of interest.
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At the same time those people that make investments in the bank the deponents,
prefer short term maturities, in order to protect their money from inflation.
The satisfaction of the banks necessity for liquidity imposes a permanent correlation
between the maturity of its placements and resources.
More that that, the banks must face the constraint that it has to maintain a set level of
liquidity, which means less profitability.
The legal requirements set by the legislation of the Republic of Moldova regarding
the liquidity sufficiency were presented in the form of two principles that the banks
have to comply with:
Principle I: the sum on the banks assets with the maturity of reimbursement
greater than 2 years must not be greater than the sum of its financial resources
Principle II: the current liquidity of a bank, expressed as a coefficient of liquid
assets to total assets must be less than 20%
1.1.3 Profitability
A bank makes all its placements in order to obtain a profit. But it must assure that the
placements are well managed so that the ratio _
profit
owner equity will increase.
Each bank wants to maximize its profits in order to please its shareholders,
employees, to cover the eventual losses and to create legal reserves imposed by the
authorities.
So, obtaining a big profit is not just a simple aim, but a necessity for assuring a sound
financial position in the banking market.
1.2 Methods of determining the credit portfolio quality
The credits are the main assets of a bank and they generate the bigger part of its
revenues.
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The credit activity implies a risk because it very easy to lend some money, but there
are situations when it is about an art to manage to recover a loan.
The credit risk may be defined as the risk of recording some losses or of not
performing profits, as a result of not honoring by the client the contractual
commitments. The decision of launching a credit is based on elements of anticipation
of the debtors activity ( the analysis of cash flows and some financial indices), which
implies the risk evaluation and its acceptance. Consequently, the risk may not be
avoided, but only prevented and diminished.
A credit portfolio may be defined as the
1. totality of credits launched by a bank at a given moment of time.
2. the weight of each type of credits offered by a bank.
The quality of a credit portfolio can be determined using the following criteria:
Structure
Liquidity (in terms of maturity)
The degree of utilization
Profitability
Stability
1.2.1 Computing the structure of the credit portfolio
By its structure the credit portfolio can be classified according to the following
criteria:
depending on the type of debtors, there are:
1. credits offered to juridical persons
2. credits offered to natural persons
depending on the type of credits, there are:
1. consumption credits
2. mortgage credits
3. investment credits and so on.
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The scope of the credit allows to determine the degree of efficiency of each type of
credit for a bank. From its earlier experience the bank determines what types of
credits are the most profitable and the least risky for the bank, in order to stimulate
the growth of the volume of this type of credits in the credit portfolio.
Depending on the branch of the economy that is being credited, these are
credits offered to legal entities which can be classified into subgroups
according to branches:
1. industry
2. trade
3. agriculture
It is important to determine the type of credit which represents the optimum amount
for the bank and that needs further investment to be developed.
1.2.2 Credit portfolio analysis according to its degree of risk
In order co cover the losses which are a result of the risk appearance generated by the
credit activity, and to maintain its stability the bank creates a special fund, named risk
fund- for covering the losses generated by credits.
Following this idea, the bank classifies all the launched credits in five big categories,
according to their exposure to the risk of not being reimbursed:
1. Standard: the credit is considered standard if it is at maturity, all the
commitments stipulated in the contract are observed and there is no reason for
the bank to consider that, at present or in the future, it will be exposed to therisk of loss.
2. Supervised: the credit has potential problems, connected to the financial
situation of the client as well as to the pledge associated to the credit. These
type of credits require the bank managements attention, because if no
measures of solving the problems will be undertaken, they may lead to
damaging the banks assets and to the reduction of the probability regarding
the satisfaction, in the future, of the banks claims to the credits.
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3. Substandard: these are credits characterized by a degree of the risk of losses
higher that the usual one, determined by one of the following factors:
a. the financial state of the debtor is unfavorable or is worsening
b. the pledge( in case this exists) is insufficient or is worsening
c. other unfavorable factors, that cause worrying regarding the debtors
ability to satisfy the banks claims, in conformity to the existing
conditions.
This type of conditioned commitment, requires the banks management special
attention, because there is a probability that the bank will suffer losses, if the
drawbacks will not be omitted.
4. Doubtful: when there are problems that arise doubts and diminish the
probability of satisfaction of a banks present/future claims afferent to the
whole volume of the credit, based on the circumstances, created conditions as
well as on the market value of the pledge in case when the asset is pledged.
5. Compromised: at the moment of credit classification the banks present/futureclaims afferent to it can not be satisfied.
According to the legal requirements, the banks are obliged to create and maintain
reductions/provisions for losses from credits at a level not lower than the required
one.
Following this idea, the risk fund for losses from credits will be formed, by
weighting each type of credits to the afferent risk coefficient, as it follows:
1. Standard credits- 2%
2. Supervised credits- 5%
3. Substandard credits- 30%
4. Doubtful credits- 60%
5. Compromised credits- 100%
An analysis of the credit portfolio according to the risk criterion may offer
information about the validity of the models used for estimating the credit risk at the
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stage of credit launching. In order to estimate the global degree of credit risk,
assumed by the bank, we can compute the coefficient of insurance against the credit
risk in the following way:
1
_ _*100%
_
risk fund volumek
credit portfolio=
(1.2.1)
This coefficient of following the credit risk may be used to evaluate the efficiency of
the banks credit policy and of the mechanisms used to determine the credit risk at the
stage of working with the debtor, of evaluating the minimum risk fund. A positive
tendency in credit risk management, at the portfolio level, is the reduction of this
coefficient.
In international practice the global risk fund must not be grater than 15%, because
otherwise the credit portfolio is considered too risky.
If this coefficient is placed in the interval 10-15% means the credit portfolio exposure
to a high level of risk, in the interval 5-10% the level of risk is acceptable and under
5% we can speak about a safe credit portfolio.
1.2.3 Credit portfolio analysis according to its components
A qualitative analysis of the credit portfolio in the field of risk supposes the
separation of the portfolio intoperformant credits, which are Standard and Supervised
credits.
The improvement of the credit portfolio quality implies the growth of the following
coefficient:
2
_*100%
_
performant creditsk
credit portfolio=
(1.2.2)
The level of credits classified as unperformant, is the total sum of Substandard,
Doubtful and Compromised credits.
A comparison of the level of credits classified as unperformant along a period of
analysis will indicate the negative tendency in the credit portfolio quality and this
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may have as a result the increase of the volume of reductions made for losses from
assets and of the provisions made.
3
_*100%
_
unperformant creditsk
credit portfolio
=
(1.2.3)
In order to have a clearer image, the value of unperformant credits must be compared
with the Total Required Capital and Total Assets, as it follows:
4
_*100%
_ Re _
unperformant creditsk
Total quired capital =
(1.2.4)
5
_*100%
_
unperformant creditsk
Total assets=
(1.2.5)
A current rule in the Republic of Moldova at the moments is that if the total amount
of credits classified as unperformant increases the level of 50% from the banks Total
Required Capital, then the quality of assets is very low.Another useful analysis of the coefficient is to compare the level ofexpired credits to
Total credits. Normally, when the expired credits are at the level of 20% or more,
from the total amount of the banks credit portfolio, then the quality of assets is low
and any result higher than the level of 40% represents a serious problem for the bank.
6
exp _ *100%
_
ired creditsk
credit portfolio=
(1.2.6)
The expired credits and those in the state of non accumulation of interest are:
o doubtful and compromised credits
o credits with maturity expiration of 90 days and more
o credits with payment at sight at which the first payment of the interest has
expired
o reimbursed credits, in partial installments, at which the rate of credit
amortization has expired
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An analysis of the rate between actual losses at the average of credits launched along
a set period of time will show the evolution of the credit risk management.
7
_*100%
_
credit lossesk
credit portfolio
=
(1.2.7)
If this coefficient increases, this may mean a high risk for the bank, generated by the
decrease of effects of the banks credit policy or by the banks inability to follow a
set policy or by the increase of the credit activities in domains characterized by a high
level of risk.
1.2.4 Determining the profitability of a credit portfolio
The profit, is finally, the most important aim of a banks shareholders, and the
objective is the increase of the banks value, through risk preventing and decrease as
well as through the increase of the banks market position. The main source of profit
in a banks activity is the credit operations. And by solving the problem of credit
portfolio profitability leads to the realization of the banks main objective.
A credit portfolio profitability may be analyzed and appreciated using the following
indicators:
the degree of profitability of a credit portfolio (Dprof)
int _ inf int _ _ _ exp
_prof
erest lows erest outflows unperformant credit ensesD
credit profit
=
(1.2.8)
This indicator determines the net profitability of one MDL given as credit.
In this formula all types of credits are equivalent, that is why, it is recommended
to determine the net profitability associated to different types of credits. But the
problem is to determine the resources that finance these credits.
credit profitability (Cprof)
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int _ inf int _ _ exp
_prof
erest lows erest outflows operational ensesC
total credits
=
(1.2.9)
This ratio allows the bank to determine the profitability of each type of credits in
particular.
1.3 Methods of credit portfolio management
One of the most significant changes to affect wholesale banking in recent years is the
shift from the traditional buy and hold origination model to active credit portfolio
management. In the active credit portfolio management approach, a centralized groupof portfolio managers assumes responsibility for making buy/sell/hedge decisions
about the composition of the portfolio and acts to optimize the risk/return
performance of credit assets. The active credit portfolio management method was
created in order to:
reduce concentration and credit portfolio volatility(unexpected losses)
increase capital velocity-use economic capital more efficiently and create thecapacity to do more business
improve returns on risk and capital
Active credit portfolio management involves three key principles:
hold credit only when the institution is being paid well for
the marginal portfolio risk-the extra portfolio risk associated with a small
increase in exposure size. reduce concentration and hence credit portfolio correlation
caused both by excessive origination in single names, countries and/or industries
and by deterioration in credit quality. When the credit quality deteriorates on an
obligor, correlation of that obligors exposure with the credit portfolio increases.
Those exposures are no longer being as well diversified by the portfolio.
to reward liquid and penalize illiquid exposures in the
portfolio through an illiquidity premium when measuring marginal portfolio
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credit risk and return. Because a credit portfolio manager cannot forecast a priori
which exposures will deteriorate in credit quality and therefore need to be
reduced. Liquidity is very important for active credit portfolio management and
should be rewarded.
Historically, credit portfolio management had focused on the monitoring of
exposure by broad portfolio segment and, if necessary, the imposition of exposure
caps.
Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.1 Optimization of origination and portfolio management activities
The creation of a stand-alone credit portfolio management function, armed
with sophisticated portfolio models and with controlling mandate over assets held
on the balance sheet, now enabled the credit portfolio to be optimized independent
of origination activity.
Active credit portfolio optimization has enormous potential to enhance profitability.
1.3.1 Credit risk measurement framework
Credit risk is conventionally defined using the concepts of expected loss (EL) and
unexpected loss (UL).
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Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.2 Credit loss volatility
Because expected losses can be anticipated, they should be regarded as a cost of
doing business and not as a financial risk. Obviously credit losses are not constant
across the economic cycle, there being substantial volatility (unexpected losses) about
the level of expected losses. It is this volatility that the credit portfolio models are
designed to quantify.
Volatility of portfolio losses is driven by two factors concentration and correlation
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Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.3 Effects of concentration and correlation on credit risk
Concentration describes the lumpiness of the credit portfolio.Correlation describes the sensitivity of the portfolio to changes in the underlying
macro-economic factors. In all but the smallest credit portfolios, correlation effects
will dominate.
When quantifying credit risk, two alternative approaches can be used when valuing
the portfolio:
Loss-based method: under this approach an exposure is assumed to be held tomaturity. The exposure is therefore either repaid at par or defaults, and thus
worth the recovery value of any collateral. Using this approach credit
migration has no effect on the book value of the obligation.
Net Present Value method: under this approach the embedded value of an
exposure is assumed to be realizable.
In general, the Net Present Value method is most applicable to bond portfolios when
for the majority of commercial banks exposures the Loss-based method is mostly
used.
1.3.2 Credit portfolio methodology
In order to accurately model portfolio credit risk the correlation between exposures
must first be measured. An attractive solution to calculating credit risk correlation is
to use a causative default model that takes several observable financial quantities as
inputs and then transforms them into a default probability. The most used models are:
Merton default model.
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Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.4 The Merton default model
The Merton default model assumes that a firm will default, if over a 12 month period,
the market value of assets falls below the value of callable liabilities. This enables
asset correlation to be transformed into credit risk correlation.
Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.5 Joint probability density function for company asset values
In Figure (1.3.5) the more correlated the movements in the two companies assets the
greater the twist in the joint asset value distribution. Hence the greater the
probability that the credit quality of the two firms will rise, fall and ultimately default
together.
Macro-economic factor model
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Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.6 Macro-economic factor model
In figure 1.3.6 a positive factor weight indicates that a positive change in that
factor produces an increase in asset value, with a corresponding rise in credit
quality and reduction in default rate. Conversely, a negative factor weight
indicates that a positive change in that factor produces a decrease in asset value,
with corresponding fall in credit quality and increase in default rate. Simulation method. While the risk of small credit portfolios can be calculated
analytically, the large number of calculations required, mean that for most
portfolios it is better to employ a numerical simulation technique. Monte Carlo
simulation is the standard method that generates all possible states of the
economy and the resulting impact on the value of the credit portfolio. In this
way a distribution of all possible portfolio values is built up, from which its
credit risk profile can be calculated.
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Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.7 Monte Carlo simulation
Now, we can illustrate a number of management applications of portfolio models.
1. Solvency analysis. The most obvious application of a credit portfolio
model is to calculate economic capital requirement.
2. Credit risk concentrations and portfolio optimization. Breaking down the
aggregate credit risk distribution to show the credit risk of each portfolio
element allows risk concentrations and hence diversification
opportunities to be identified. For most credit portfolios simple
optimization techniques will substantially reduce economic capital
requirements.
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Source: Credit portfolio management, by T. Garside, A. Stevens
Figure 1.3.8 Potential diversification benefits in a typical bank portfolio
3. Sensitivity analysis. Portfolio models can be used to calculate expected
loss rates under different economic scenarios and thus drive dynamic
provisioning estimates or loan loss reserving methodologies.
Chapter II: Credit portfolio analysis of Moldova Agroindbank CB,
branch X
2.1 Analysis of the Moldova Agroindbank CB, branch X credit portfolio
structure.
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As it was previously mentioned the structure of a credit portfolio may be determined
by classifying it according to different criteria. And after the classification is
performed relevant conclusions can be drawn.
In our particular situation the credit portfolio of Moldova Agroindbank CB, Branch
X can be classified according to the following criteria:
by the type of the debtor
by the type of the credit
by the branch of the economy that is credited
by the maturity of the credits offered
by the type of relationship of the debtor with the bank
1. By the type of the debtor. As it is known, according to this criterion there are
two types of debtors: juridical and natural persons. In our particular case, the
distribution of the debtors of Moldova Agroindbank BC, branch X,
according to this criteria can be illustrated in the following way:
Table (2.1.1)
Credits offered to types of debtors according to the number of debtors
Source:Moldova
Agroindbank CB,
branch X, credit
portfolio
Table (2.1.2)
Credits launched to types of debtors according to the volume offered
Type of debtorWeight in the total
portfolio
Juridical persons 66,75%
Natural persons 33,25%
Total 100%Source:Moldova Agroindbank CB, branch X, credit portfolio
2. By the type of the credit. By performing this classification we want to
determine the weight of each type of credit that Moldova Agroindbank BC,
Type of debtorWeight in the total
portfolio
Juridical persons 5,5%
Natural persons 94,5%
Total 100%
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branch X, offered and the profitability of each type of credit (Annex 1,
Annex 2).
Table (2.1.3)
Credits offered to juridical persons
Type of credit Amount offered,%
Overdraft 27
Investitional (MT) 23,7
Investitional (LT) 1,77
Circulant (trade) 1,23
Circulant (agriculture) 11,67
Investitional pentru
reparatii capitale
1,38
Total 66,75Source:Moldova Agroindbank CB, branch X, credit portfolio
Table (2.1.4)
Credits offered to natural persons
Type of credit Amount offered,%
Imobiliar 5,83
Multioptional 24,37
Nenominalizat 3,05
Total 33,25
Source:Moldova Agroindbank CB, branch X, credit portfolio
3. By the branch of the economy that is credited. At this criterion we can analyze
only the credits offered to juridical persons depending on the type of activity
each juridical person performs according to its statute. Moldova
Agroindbank CB, branch X, financed the development of the following
branches of the economy (Annex 3).
Table (2.1.5)
Branches credited
Branch of the economy Amount offered,%
Agriculture 37,14
Trade 29,6Source:Moldova Agroindbank CB, branch X, credit portfolio
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4. By the maturity of the credits offered. Here we can determine the liquidity of
the credit portfolio, because a short-term oriented credit portfolio is considered
more liquid than a long-term one (Annex 4).
Table (2.1.6)
Credit portfolio liquidity
Time period Amount offered,%
Long term loans 7,58
Medium term loans 28,14
Short term loans 64,28Source:Moldova Agroindbank CB, branch X, credit portfolio
5. By the type of relationship of the debtor with the bank. According to this
criterion we can distinguish between credits offered to affiliated persons and to
non-affiliated persons. In our particular case, Moldova Agroindbank CB,
branch X, has no credits offered to affiliated persons. This way we can
conclude that 100% from the amount of credits launched are offered to non-
affiliated persons.
Conclusion: After performing structural analysis of the credit portfolio of Moldova
Agroindbank CB, branch X, we can conclude that its credit portfolio can be
characterized by a high degree of liquidity as the weight of short-term credits exceeds
50% and constitutes 64%. This is a quite applaudable situation because, as we know,
the biggest amount of deposits are short-term deposits and in this case we can
confidently state that the upper mentioned bank is not threatened by the
transformation risk of liquidity. At the same time we can speak about the
disadvantage that short-term and medium-term credits are less profitable than long-
term ones.
According to Moldova Agroindbank CB policy of credit, the agriculture is the
sector of the Republic of Moldovas economy sector that is considered to have a
priority in crediting. This fact can explain the increased weight of credits offered by
Moldova Agroindbank CB, branch X, to the agricultural sector. The second
sector that has been credited in large proportions is the trade sector. Here we can
notice that the mentioned credit portfolio is not enough diversified because the
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subsidiary depends on the evolution only of two sectors of the economy. But at the
same time this fact can be explained in the following way:
1. the priority given to the agricultural sector
2. the dependence of the territorys size, because in a small region like X it is
difficult to diversify the activity
3. the existence of competition
Referring to the credit portfolios structure according to the type of debtors, we can
say that although the number of juridical persons credited is small (only 5,5%) the
volume of credits offered to these clients is relatively high (66,75%). Here we ca see
the advantage that the collaboration with juridical persons is less risky, because they
have a profitable activity in comparison with natural persons that are dependent on
constant incomes (the salary). More than that, in small subsidiaries, the juridical
persons are in the majority of cases permanent clients, and this way the subsidiary
knows the credit history of the client and has general experience of collaboration with
the client. But the disadvantage here is the fact that in this case we can notice a high
degree of concentration- a small number of juridical persons clients and a highamount of credits launched to them. The credit portfolio, and the subsidiary as well,
becomes too dependent from the activity of these clients. The failure of one client
may lead to serious qualitative and quantitative damages to the credit portfolio.
2.2 Qualitative analysis of the Moldova Agroindbank CB, branch X credit
portfolio
As it was mentioned before, each bank has to classify all its credits into five
categories of credits, according to the level of risk supposed by each credit. In the
particular case of Moldova Agroindbank CB, branch X, the classification of
credits looks in the following way:
Table (2.2.1)
Moldova Agroindbank CB, branch X, credit portfolio classification
Type of credit Sum, m.u. % in the risk fund Amount of the
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risk fund
Standard 28728110 2 574562,2
Supervised 6880500 5 344025
Substandard 600000 30 180000
Doubtful 6000000 60 3600000Compromised 1105000 100 1105000
Total 43313610 - 5803587,2Source:Moldova Agroindbank CB, branch X, credit portfolio
Once the classification is done, we can calculate the global degree of credit risk
coefficient (k1)
1
5803587,2*100% 13,4%
43313610k = =
(2.2.1)
Conclusion: The global risk fund can be characterized by a high degree of risk,
because it is higher that 10%, but at the same time it is acceptable as it is lower than
the internationally level set at 15%.
Now we have to compute the amount of profitable and unprofitable credits at the
Moldova Agroindbank BC, branch X, that are needed to calculate the value of
other relevant indicators that show the quality of a credit portfolio.
Table (2.2.2)
Classification of credits launched according to their quality
Performant credits 35608610 MDL
Unperformant credits 7705000 MDLSource:Moldova Agroindbank CB, branch X, credit portfolio
28
2
35608610*100% 82,2%
43313610k = =
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(2.2.2)
3
7705000*100% 17,8%
43313610
k = =(2.2.3)
Conclusion: According to the performed analysis we could determine that the sum of
credits characterized by a low degree of risk amounts to 82,2% in the Moldova
Agroindbank CB, branch X, credit portfolio and correspondingly, the sum of
credits characterized by a high degree of credit risk amounted to 17,8%. Moldova
Agroindbank CB, branch X, is advised to minimize the amount of credits with a
high degree of risk . The credit risk can be eliminated using the following methods:
1. Increase in the quality of credits launched
2. Launching credits to clients with a good financial situation
3. Increase of the crediting profitability.
2.3 Credit risks at Moldova Agroindbank CB, branch X
The credit risk can be defined as the risk that the interest, credit or the both of them
will not be reimbursed at maturity or will be reimbursed partially. This risk is specific
to the banks that have the important function in the economy of crediting.
The credit risk appears as a result that the enterprises that were offered the credit are
not able to reimburse it which may be a result of the postponement between revenues
and expense, the risk appearing as their future inflow will decrease or will disappear,
or a result of the debtors dishonesty, which is a risk that the bank is not able to
appreciate or quantify very efficiently.
The risk of future revenues insufficiency is very difficult to be anticipated especially
in conditions when the evolution of inflation imposes the credit interest increase.
At the same time the enterprises inability to reimburse the credit may be a result of itsenvironment. An enterprises environment is defined as the totality of the enterprises
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external factors of economic, political, social and branch situation nature in which the
enterprise performs its activity, and the influence of which may affect its future
performance.
Political decisions such as the embargo set on particular products, some regional and
international agreements, have a deep influence on some enterprises. When these
decisions are taken the enterprise sees its market changed in a very short period of
time, and this fact negatively influences the enterprises viability.
The economical risks are determined by some changes in the structure of the
economy of a country. In periods of recession the enterprises face some difficulties
that may lead even to bankruptcy.
The situation and the evolution of the branch, in which the enterprise activates,
contradictory influences some enterprise. The innovations may modify the production
procedure, but may determine the introduction of new products which are more
competitive, and this may determine that the demand for the products of some
enterprises may decrease or even disappear.
So, the bank has to know the evolution of the enterprises environment throughpermanent monitoring and analysis.
In the particular case of Moldova Agroindbank CB, branch X, the credit risk is
highlighted by the lack of the credit portfolio diversification according to braches. As
it was upper shown Moldova Agroindbank, CB, branch X, launched credits only
to the agriculture and trade sectors which makes the portfolio too sensitive to the
changes that may occur in these sectors of the economy. Speaking about the
agricultural sector than it is well known that in the past 5-10 years the changes in the
climate, as a result of the greenhouse effect, determined very small quantities of
harvest characterized by poor quality. So the floods and droughts that were following
one another influenced in a very bad way the financial situation of those enterprises
that activate in this sector of the economy. We can state that these changes in the
climate indirectly may seriously influence the situation of the up mentioned bank,
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that may find itself in the situation that the biggest part of its credits will have to be
restructured and prolonged.
At the same time Moldova Agroindbank CB, branch X, faces the risk of poor
client diversification. As it was shown the number of juridical persons that are clients
of this bank amounts to 5,5% from the total amount of clients. And at the same time
the amount of credits launched to these clients is 66,75% from the total portfolio
which means that the bank depends a lot on the financial health of its several but
important clients. In order to avoid this risk and improve the situation the bank is
advised to have a more aggressive politics of credit. Which means, offering more
credits of smaller amounts, to a bigger number of clients. This way the risk of credit
non reimbursement of one client will affect the banks credit portfolio and the banks
financial health in smaller proportions.
At the same time Moldova Agroindbank CB, branch X, faces the problem of a
considerable weight of unperformant credits which amounted to 17,8% in the total
amount of credit portfolio. In its further activity the bank will have to struggle to
solve this problem by undertaking a particular approach to each unperformant creditby restructuring the reimbursement schedule, taking additional mortgage or by sueing
the bad debtor. But in the last case the bank will face the risk of selling the mortgage
at the market value which frequently is significantly lower than the book value.
2.4 Methods of credit portfolio diversification
The credit portfolio diversification represents a way of optimization the banks
performance. Credit portfolio diversification has two major aims:
1. risk minimization
2. maintaining and increase of the existent level of profit
Credit portfolio diversification is subordinated to the principle of risk dispersation.
The disadvantage here is that risks dispersation minimizes the risk but it also leads to
smaller profits. The persistence towards certain placements and debtors, multiplies, in
some cases, the risks, but at the same time amplifies the profits. So it is the banks
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responsibility to decide on the placements to be made and on the directions of credits
to be launched.
The diversification of a credit portfolio may be made on specific single directions or
on several directions simultaneously. These directions can be enumerated as it
follows:
1. on the debtor
2. on the branch
3. on the type of credit
4. on maturity
The credit portfolio diversification on the debtor means an accurate selection of
debtors which implies a persistent study of the debtors history, financial soundness,
and, of course, the debtors future performance. The aim of studying the debtors
history is to identify the enterprises performances, risks and its management. This
study is made at the first stage of discussion with the potential client. The bank has to
analyze the potential debtors financial situation by calculating relevant indicators
showing the debtors ability to pay on the credit commitments and classify the debtoraccording to credit scoring into one of the five categories.
Then the bank has to analyze the debtors future. The aim of this analysis is to
determine the risks of the business that the bank is about to credit, to identify all the
potential sources of credit recovery, to determine the degree to which the
stockholders support the business and its viability on the market.
Once the study is made and the client has been granted the credit then the next stage
comes up: the work with the client and permanent credit monitoring. This will help
the bank to determine whether the credit is used according to the scope stipulated in
the credit contract and whether the financial health of the client remained stable,
improved, or worsened. Depending on the conclusion made the bank has to create a
plan of actions in order to minimize the risk.
Credit portfolio diversification on the branch refers to the idea that a sound credit
portfolio must not be dependent on a single or few branches of the economy because
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even unessential fluctuations in these sectors may significantly affect the banks
health. The most relevant sample to support this statement is the current situation of
the global economy the crisis. Due to the fact that a big number of banks betted on
the real estate market development, the crash of this market lead to an even huger
crash of a number of banks.
A sound credit portfolio must also contain different types of credits launched. The
difference between these credits is in the form of sum, maturity, scope of credit and
other credit attributes. These variables must be well alternated in order to obtain the
optimum result in the form of a low risk and high profitable credit portfolio. The
bank has to establish the optimum proportion between long-term and short-term
credits, between secured and unsecured credits, between big and insufficient
exposures.
The maturity of the credits also plays an important role in the credit diversification
function. On the credits maturity depends the liquidity of the credit portfolio. And
here the optimum level of liquidity must also be efficiently set. This must be done
because a too liquid portfolio limits its profitability, while a less liquid portfolioincreases the profitability and the risk as well. The maturity of the credits must also
be coordinated with the maturity of the banks financing sources. A bank is not
supposed to offer long-term credits when the deposits that it holds are short-term
oriented.
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