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Credit Risk and Its Importance in Property Business

apa itu risiko kredit

When a debtor applies for a loan, the creditor is required to carry out many detailed calculations to avoid possible billing problems such as through assessing credit risk.

It is not uncommon for individuals and companies to have difficulty meeting their obligations to pay debts on time before the deadline. This results in creditors inevitably experiencing difficulties if there are many cases of bad credit. In addition, various economic crises have had a major impact on the business world. Proper risk management is needed so that creditors are also able to survive in the face of these crises.

Let’s read the full review below!

Definition

Credit risk is a loss associated with the potential failure to meet credit payment obligations when deadlines. Two things affect the risk level, such as the amount of credit exposure and the quality of the credit exposure itself. The higher the value of the debt is, the higher the credit exposure becomes.

The quality of exposure in this risk is the possibility of default as measured by the quality of the debtor’s installments. If the value of the debtor’s credit guarantee is lower, then the quality of the credit exposure will also be lower. This results in higher credit risk.

Read also: Know Your Customer (KYC): How Does it Work and How Can it Help Your Company

Types

In general, these three types of risk are most likely to occur in the banking industry.

1. Sovereign

This risk is related to the government’s ability to pay its debts. If the government experiences difficulties in meeting its debt payment obligations, then this sovereign credit risk will occur. This risk can arise due to factors such as the country’s economic conditions, government policies, and political conditions.

2. Corporate

This risk is related to the company’s ability to pay its financial obligations. This risk can take place if the company has difficulty paying its debts. Factors that can cause this risk include the company’s financial condition, operational performance, and the conditions of the industry in which the company operates.

3. Retail Customer

This risk is related to the ability of individual customers or consumers to pay their debts to banks or other financial institutions. Factors that can cause this risk are customer income, credit history, and economic conditions that affect customer purchasing power.

Read also: 2 KYC Examples in Banking and Finance Industry

How to Prevent the Risk?

To prevent credit risk, several steps can be taken by banks or financial institutions. Here are some risk management methods and risk management practices that you can try.

1. Risk Management Methods

In managing risk, a bank utilizes several methods and regulations called risk mitigation. This is done to avoid and prevent the possibility of credit losses. The following methods are commonly used to manage credit risk:

a. Ranking Model

The use of credit rating models can assist in identifying potential credit risks. This model is used to assess the credit quality and risks associated with borrowers. Credit rating models can assist banks in making the right decisions regarding credit approval.

b. Credit Portfolio

Management Diversifying the credit portfolio properly is an important strategy for managing the risk. The act of dividing the risk among different industrial sectors or different types of borrowers can help banks to reduce the impact in the event of a credit default from one borrower or a certain industrial sector.

c. Securitization

Securities are the process of converting credit into traded financial instruments. In securitization, these credits are combined into tradable securities. Securitization allows banks to transfer some risk to other investors.

d. Collateral Role

Collateral is an asset guaranteed by the borrower to the bank as collateral for the credit provided. In the event of a credit payment default, banks can use collateral as a way to reduce risk. Careful collateral appraisal and proper collateral selection are essential in managing this risk.

e. Cash Flow Monitoring

It is important to carry out careful monitoring of the borrower’s cash flow. Regular monitoring allows banks to identify changes in a borrower’s ability to meet credit repayment obligations.

f. Recovery Management

In the event of credit repayment failure, banks need to have an effective strategy for managing fund recovery. The recovery process includes negotiating with the borrower for debt repayment or through legal remedies if necessary.

Read also: 6 Ways to Do Fraud Prevention in the Banking Industry

2. Risk Management

Risk management is a step that you can take to manage possible losses that might occur because the debtor has failed to pay. Several credit risk management steps are as follows:

a. Filtering

Exercising careful screening when granting credit is an important step in preventing risk. The screening process involves an assessment of the ability and integrity of the borrower including a business feasibility analysis and credit analysis.

b. Limiting

Setting a maximum credit limit for one borrower or a group of borrowers can help reduce the risk. By limiting the amount of credit given to one party, banks can reduce the potential losses that might occur if the borrower experiences payment difficulties.

c. Diversification

Credit portfolio diversification is an important step in risk management. Diversification of the loan portfolio across various industrial sectors, geographical areas, and types of borrowers can help banks reduce the risk associated with dependence on one particular segment.

Through risk management methods and good risk management practices, banks can prevent or reduce risks that may arise. Banks need to have strong policies and procedures for managing risk to maintain their financial health and business continuity.

A significant understanding of credit risk enables business owners to take the necessary steps to manage these risks, protect business finances, and optimize growth opportunities.

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