Advanced Credit Risk Analysis and Management

18

Trading of Credit Assets

Portfolio risks can be managed by buying credit in desired sectors, regions or asset classes and selling credit in undesired areas. Secondary markets for credit assets (loans) facilitate this. During the late 20th century the development of an active secondary market for loans and credit assets resulted in altering the school of thought in banks and financial intermediaries of ‘originate to hold till maturity’ to ‘originate to sell’. (Whilst ‘originate to sell’ is a good business model, the 2008 Credit Crisis brought out instances where the originators did not care sufficiently about the credit quality of the asset originated while some investors acted irresponsibly without studying the credit risks properly.)

Why do banks and FIs want to trade in the credit assets? The major reasons are given below:

• Managing the credit risk.
• Selling of credit assets enables reporting of current income quickly (fees, etc.). Interest income takes time to accrue.
• Meet the capital ratio/adequacy requirements by filling the denominator with appropriate credit assets (capital/risk weighted assets).

The purchase and sale of credit assets have their own role to play in the credit markets. There are different methods to acquire and dispose of credit assets, an overview of which is provided in the rest of this chapter. A chart is shown in Figure 18.1 for a quick glance:

Figure 18.1 Major Categories of Credit Asset Transactions

18.1 SYNDICATED LOANS/CREDIT ASSETS

The secondary ...