Stabilizing RWA Calculations
As an article in last week's Financial Times notes (Time to work out real odds in the weighting game, May 2), some European regulators are calling for a standard way to calcula…

As an article in last week's Financial Times notes (Time to work out real odds in the weighting game, May 2), some European regulators are calling for a standard way to calculate risk-weighted assets (RWA) under Basel. RWAs and equity are used to determine a bank's capital strength. Banks and countries have inconsistent calculation methodologies for RWA, causing concerns that accuracy is not uniform globally and may put some banks at risk of mismatching their tier 1 capital holdings when compared against the absolute risk in their portfolios.
Fluctuations in the economic cycle are notoriously hard to forecast, leading to lagged volatility in the RWA calculation regardless of methodology chosen. Predictive models measuring credit risk tend to capture and reflect the influence of the current cycle point – resulting in widely different RWA values for the same inherent risks. What these models should be doing is anticipating the future impacts of the economy on borrower repayment behaviors.
I discussed a solution to this approach in my recent Insights white paper Leaning Into the Next Economy: The Counter-Cyclical Imperative. Marrying credit scoring with economic forecasts can control model cyclicality, and produce more stable RWA measures based on the future, not the past.
We have worked with leading banks across Europe on solving these kind of Basel-related analytic issues. The approach that studies economic impact can be highly effective both in meeting regulatory demands and in making smarter risk and capital management decisions.
Popular Posts

Business and IT Alignment is Critical to Your AI Success
These are the five pillars that can unite business and IT goals and convert artificial intelligence into measurable value — fast
Read more
Average U.S. FICO Score at 717 as More Consumers Face Financial Headwinds
Outlier or Start of a New Credit Score Trend?
Read more
FICO® Score 10 T Decisively Beats VantageScore 4.0 on Predictability
An analysis by FICO data scientists has found that FICO Score 10 T significantly outperforms VantageScore 4.0 in mortgage origination predictive power.
Read moreTake the next step
Connect with FICO for answers to all your product and solution questions. Interested in becoming a business partner? Contact us to learn more. We look forward to hearing from you.