Optimization of Post-Scoring Classification and Impact on Regulatory Capital for Low Default Portfolios

  • The 2008 crisis was the main cause of tough market regulation and banks’ consolidation basement. These new constraints have caused a major increase in banks’ capital. As a result, banks need to optimize their return on equity, which has suffered a big drop (due both to a drop in profitability as well as an increase in capital).
  • Moreover, as this crisis showed loopholes in risk measurement and management, regulators’ tolerance becomes more and more stringent. Consequently, banks are facing challenges while dealing with Low Default Portfolios (LDP) and discerning the way to meet regulatory requirements in terms of credit risk management under the Advanced Approach (IRBA) of Basel rules.
  • The purpose of this paper is to focus on post-scoring classification for LDPs with the aim to study the possibility of building a rating scale for these portfolios, that meets regulatory requirements as well as to identify the opportunities to optimize RWA. This will be accomplished by studying the relationship between the number of classes within a rating scale and the impact on RWA. The analysis will follow different steps.

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