Monetary Authority of Singapore Risk Management Guidelines on Credit Risk – Overview and Summary of Requirements

  • By: Staff Editor
  • Date: March 08, 2013

The Monetary Authority of Singapore (MAS) released these risk management guidelines to provide guidance on best practices to follow with respect to credit risk. Financial institutions can utilize these guidelines for credit extension but banks may apply them to both trading and banking books. This article provides an overview and summary of requirements included in the guidelines.
Credit Risk - Definition
The risk which develops from the uncertainty of an obligator’s capacity to fulfill its contract-bound obligations is known as credit risk.
Factors that give rise to credit risk:
  • Both off- and on-balance sheet transactions may give rise to credit risks.
  • Various economic instruments may also be responsible for exposing an institution to credit risk.
  • The possibility of credit risks occurring alone is non-existent and a risk event normally involves both credit and market risks.
Each institution must form a risk management process to suitably identify, gauge, track and manage credit risk. Sufficient capital must be present at-hand to deal with assumed credit risks.
Risk Management Procedures and Policies
Strategy for Risk Management
  • Each institution must realize the credit risk level it will be able to bear. It needs to devise a risk management tactic that maintains its business targets and credit risk tolerance.
  • The strategy of credit risk needs to be submitted to the Board members periodically for review. The employees need to know the various concerns and changes.
Structure of Risk Management
  • Each institution needs to form a risk management structure equivalent to the nature and size of its activities.
  • The institution should form a senior management committee to establish and supervise the framework of credit risk management. The committee must include senior management from control functions and business line.
  • The control and risk management feature of an institution must remain independent of the function of credit origination.
Credit Policies
  • The Board has to approve credit policies and it must also be in charge of approving any exceptions and changes to the procedures.
  • Credit policies should establish guidelines and conditions for the granting, monitoring, management and maintenance of credit, at both portfolio and individual transaction levels.
  • Credit policies will remain effective only if they are known throughout the institution and revision of the policies on a regular basis is a must for incorporating shifting external and internal circumstances.
 An institution needs to set up suitable processes and procedures for implementing its credit policy.
Delegation of Authority
  • Board members can delegate the authority of credit term changes or approval to the credit committee and senior members.
  • The assignment of such authority must depend on the ability, suitability and experience of the staff.
  • The establishment of credit approving authority is a must for dealing with unsecured and secured credit along with particular products.
Criteria for Credit
  • Particular criteria for credit are necessary for an institution to define the characteristics and types of its choice obligors.
  • For the obligor to adhere to credit criteria, the institution needs to possess minute details regarding the obligor, repayment source as well as the reason for credit.
  • The credit criteria of an institution can shape its risk profile.
Credit Limit
  • A credit limit must be in place for single and groups of obligors for proper credit risk management.
  • The limit’s size must depend on the obligor’s credit strength and the risk tolerance of the institution.
Extension of Credit to Related Parties
  • Credit extensions should be made at arm’s length. This applies to credit offered to parties relating to the institution or its directors.
  • The senior management board has no say in the process of decision making for credits to individuals and companies.
  • Credits of this sort should be closely monitored and steps to control and mitigate risks should be taken.
Measurement of Risks, Control and Monitoring
Granting of Credit
Each institution must possess a fixed procedure for the approving new credits and extending existing ones.
Mitigation of Risks
  • An institution can mitigate credit risks through use of guarantees and collateral.
  • Guarantees for credit facilities must be evaluated in relation to credit quality, legal capacity and strength of the guarantor.
  • Each institution is capable of monitoring individual credits through the establishment of a separate system.
  • Key indicators of credit condition should be specified and monitored. These indicators can be from the following:
    • Financial position and business conditions
    • Conduct of accounts
    • Loan covenants
    • Collateral valuation
    • External rating and market price
Review of Credit
  • Periodical credit reviews are a must in every institution.
  • Credit reviews should be performed at least once a year
Provision and Classification
  • Adequate provisions, in compliance with existing regulations, must be made for classified risks
  • Loan classification and provisions should be subject to independent review and approval
  • Loans should be properly and promptly graded to reflect the assessed credit strength of the borrower
  • If loan grading is linked to an institution’s internal risk rating, a proper process mapping internal rating to regulatory rating must be implemented and followed
  • Collateral should be properly evaluated. Institutions should have a reliable and timely collateral valuation system that considers factors such as:
    • Legal enforceability of claims on collateral
    • Ease of realization of collateral
    • Current market conditions
Problem Credits
  • Institutions should have processes in place to manage problem credits at an early stage. Classified accounts should be managed by a dedicated remedial process This process should include:
    • Review of collateral and security documents
    • Formulation of remedial strategies
    • Negotiation and follow-up
    • Status report and review
  • It would a best practice for the institution to have a separate unit that solely focuses on problem credits
Administration of Credit
  • An institution must have robust procedures for the following credit administration activities:
    • Credit documentation
    • Disbursement
    • Billing and repayment
    • Maintenance of credit files
    • Collateral documents 
Internal Risk Rating
  • Institutions should have policies to develop, review and implement internal risk rating systems where necessary
  • These systems should be validated and their applicability to relevant portfolios evaluated before implementation
  • Statistical models used in these systems to assess portfolios must be evaluated
  • Risk ratings should be assigned at the start of the lending process and updated at least annually
  • Statistical models should be periodically back-tested after their implementation
Credit Portfolio Risk Management
  • It is important for an institution to monitor credit risk on portfolio basis to handle concentration risk.
  • Every institution must measure and identify the concentration risk present in its credit portfolio.
  • Institutions must have appropriate limits to cap concentration risks at an acceptable level.
  • Branch offices in geographies with high concentration risks must monitor and manage this at the branch level
  • Trends in loan growth, collateral values and asset quality must be monitored to detect any weaknesses in the credit portfolio
  • Credit risks of portfolios must be evaluated using the credit value-at-risk or credit portfolio models
Stress Testing
  • Stress testing scenarios should be relevant to the institution’s portfolio
  • It is necessary for the institution to document its stress testing policy.
Credit Risk in the Trading Book
  • Each institution needs to formalize extra procedures and policies for managing credit risk in the trading book.
  • These additional policies must cover areas such as:
    • considerable obligor concentrations and exposures,
    • settlement and pre-settlement risks,
    • obligor ratings,
    • credit exceptions,
    • provisioning and
    • non-performing contracts
  • Only those personnel with necessary authorization can approve of credit lines
  • Credit reviews should be undertaken by a department independent of front-office functions and should be done before establishing a relationship with the obligor
  • Simulation analysis as well as analytical tools can be used for measuring Potential Future Exposure (PFE)
  • Clear policies on collateral arrangements with obligors should be established
  • Stress testing of obligor credit exposures should be performed to identify those vulnerable to extreme or one-way market movements
Additional Resources

Read the MAS Risk Management Guidelines on Credit Risk in full.

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