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Risk is a Four Letter Word

July 5, 2012
Fraud_Risk_and_Analytics
Karen Gordon
Zoot Enterprises, Inc.
The 2008-09 financial crisis taught the industry that risk management needs to be embedded in decision making at all levels of the organization and that every management position needs to be aware of the amount of risk that is acceptable and prudent in the pursuit of turning a profit. If there aren’t common policies across all lines of business, trouble surely lies ahead institutionally. It’s logical to assume that credit risk managers and marketing departments in the financial services industry would be at odds when it comes to the acquisition of new customers. Marketing wants to approve as many accounts as possible and credit risk wants to reduce risk as much as possible. While that natural friction exists, both sides can still accomplish their goals.

When the crisis hit, lending came to a standstill. Several market conditions made traditional credit scores less reliable—layoffs, strategic defaults, foreclosures, consumer behavior changes, etc. The effectiveness of traditional credit evaluation methods meant banks were overlooking many creditworthy, valuable customers. This also caused frustration on behalf of consumers who were no longer able to qualify for lines of credit as they had in the past. Today, financial institutions recognize the need for more sophisticated methods of evaluating risk in order to approve more consumers and are adopting more advanced capabilities to help them do so.

A big push in the industry right now is combining traditional data with alternative data in credit decisioning platforms. Combining different types of data means developing more complex logic to evaluate consumers, in turn this provides a generous lift in approvals without adding risk. This is a great benefit, but one that doesn’t come without effort. Creating more sophisticated logic requires more advanced testing capabilities such as the ability to compare the predictiveness of new data sources against traditional sources and create matching test files across different data formats. The more custom logic a bank has, the more efficient that testing needs to be in order to adapt and implement changes quickly—quickly, but cautiously.

The increased use of new data sources is going to push the need for more effective testing capabilities. All sides can win; from marketing to credit risk to consumers. There are opportunities to learn from past mistakes and innovations that will push the industry forward. In testimony given to the Senate and House in response to the bank’s recent massive trading losses JPMorgan Chase chairman and CEO Jamie Dimon stated, "I think no matter how good you are, how competent people are, never get complacent in risk. Challenge everything. Make sure people on risk committees are always asking questions." While risk may be a four letter word, accountability, new data sources and sophisticated testing capabilities can help ensure that it doesn’t continue plaguing the banking sector.

Karen Gordon has worked in the marketing group at Zoot Enterprises for the past 5 years and has more than 17 years of experience in management and public relations. While earning her master’s degree she learned the importance of promoting an organization’s image and creating a positive buzz about its offerings. In her role at Zoot, Karen leads the company’s public relations program. For more from Karen and others from Zoot, visit the Zoot blog here.

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