Risk Mitigation – National Housing Bank Training Program
‘Risk Mitigation’ – National Housing Bank Training Program
The whole world of bankers and finance company executives talk about Risk and Risk Mitigation, especially after the 2008 crisis, when the Risk Managers back in the US got hammered for letting it happen. A little research would clearly show that (e.g. read ‘Faultlines’ by RBI Governor Raghuram Rajan) something like the 2008 was waiting to happen and the signs were clear as early as in 2005, or may be even earlier. Why hammer the poor risk underwriter there, who only did what he was told to do by his bosses…the bosses who blindly did what the market did. The market was in a state of hysteric euphoria, being blessed by the ‘holier-than-thou’ rating agencies. The rating agencies with whatever diagnosis that they did, happily awarded high ratings to popular financial instruments, which the rating agencies in their supreme wisdom and expert knowledge of the market and technicalities of finance completely failed to predict as ‘ripe-enough-to-go-down-the-drain’. Amongst all the good and evil that the 2008 crisis bestowed on the world, including loss of jobs to many, it has really brought to fore the Risk Management function. It’s kind of fad now to speak about Risk and Risk Mitigation. The ‘in-thing’, if one may say.
In this backdrop, the training program in Pune, offered by National Housing Bank for the Middle and Senior level executives of Housing Finance Companies, Regional Rural Banks, Cooperative Banks and SCBs aimed at giving the participants a clear dosage, ‘the-right-perspective’, of what Risk and Risk Mitigation meant. With over 45 participants, the program was not only well-attended, but many of the participants eagerly took part in exchange of views during the sessions.
I had the opportunity of taking a session on Risk Mitigating Techniques, with specific focus on housing finance (given that most of the participants were from housing finance backgroun). It was interesting to note the silent acceptance by the participants, overlaid by a casual layer of sheepish mischief, that the majority of the body of professionals in the housing finance market do not differentiate between ‘Strengths’ in a case and ‘Mitigants’ in a case. When prompted, everyone in the group then openly and gracefully agreed that in practice nobody differentiates between ‘Strengths’ and ‘Mitigants’.
The correct statement in this context is ‘All Mitigants are Strengths, but all Strengths in a case need not be Mitigants’. Thus if there is a loan application that has a high FOIR (Fixed Obligations to Income Ratio) and a low LTV (Loan to Value) ratio, the low LTV can be treated as a Strength of the case, but it is not going to mitigate the risk of the high FOIR. The right mitigant to mitigate the risk of high FOIR would be a good income level of the applicant, good educational qualification and perhaps good work / business stability. If the applicant loses his job or his business meets up with some losses, the low LTV in the case is not going to ensure that the EMI payments come regularly. Similarly for a case with a high LTV, low FOIR would not be a mitigant. But good location and marketability of the property would be. But in practice, if a case has a low LTV and / or low FOIR, many other risks in the case are overlooked, which is a very wrong practice. There are many other parameters that are wrongly used as Risk Mitigants by people in practic and the group discussed many such examples. Low LTV wrongly used as a mitigant for low work experience, good property used wrongly as a mitigant for High FOIR, good work stability wrongly used as a mitigant for high financial dependants etc.
Given that we are dealing with a product that is long term in nature, a misplaced assessment of risks and overlooking absence of mitigants, would endanger the portfolio in the medium to long term. Effects may not be visible in the short term. It is more like a gradual tooth decay…..one finds after several years, the teeth suddenly start giving intolerable pain. So will the portfolio, if we do not put the clear understanding of ‘Risk Mitigants’ v/s ‘Strengths’ of a case in the right perspective. All staff working on housing loans…or for that matter any other retail loans, must understand this difference. Confusing any random strength that comes with a case, as a ‘risk mitigant’ for any random risk, may see that transaction through, but in the medium to long run have dangerous consequences for the portfolio.
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