Barclays 2003 Annual Report Download - page 44

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Severity
Severity is the estimated amount of loss expected if a loan defaults,
calculated as a percentage of the exposure at the date of default. It
recognises that the loss is usually substantially less than the exposure.
The value depends on the collateral, if any, seniority or subordination
of the exposure, work-out expenses relative to the loan value and
other considerations. The outcome is heavily dependent on economic
conditions that determine, for example, whether businesses can be
refinanced or the prices that can be realised for assets in the event
that they are sold.
Exposure
Exposure in the event of default represents the expected level of usage
of the credit facility when default occurs. For example, at default the
customer may not have drawn the loan up to the approved limit or may
already have repaid some of it. For derivative instruments, exposure in
the event of default is the estimated cost of replacing contracts with a
positive value if counterparties fail to perform their obligations.
The Group monitors its credit risk on an ongoing basis by applying these
measurements across the portfolio – both wholesale and retail. It does
this by combining the information into a measure called Risk Tendency.
Risk Tendency
Risk Tendency is based on the results of a set of model-based
calculations, the models having been created using historical data. The
models estimate the expected loss arising from loan defaults over the
forthcoming 12 months from the current performing loan portfolio,
taking into account its current composition, size and risk characteristics.
The actual credit provisions can vary significantly around this value, due
to changes in the economic environment or the business conditions in
specific sectors or countries during the year and from unpredictable or
unexpected events. This applies especially in wholesale portfolios where
the default of a small number of large exposures can have a significant
impact on the outcome.
In addition to enhancing the understanding of the average credit quality
of the portfolio, Risk Tendency is one of the measures used by the Group
to inform a wider range of decisions, such as establishing the desired
aggregate exposure levels to individual sectors and determining
pricing policy.
The models used in the Risk Tendency calculation reflect the diversity of
the portfolio. They are being improved constantly as the Group collects
more data and deploys more sophisticated techniques. The Group
believes that each change will have a minor impact on the total result
but should lead to better estimates over time.
As shown in the table below, Risk Tendency was £1,390m based upon
the composition of the lending portfolio as at 31st December 2003
(31st December 2002: £1,375m). It fell in Personal Financial Services
by 8% as a result of enhanced risk and fraud management strategies.
Barclaycard Risk Tendency increased by 21%, commensurate with
growth in the portfolio and the impact of the acquisition of Clydesdale
Financial Services. Risk Tendency increased in Barclays Private Clients by
44% following the acquisition of Banco Zaragozano. It fell in Barclays
Capital by 38% following the recovery in wholesale credit markets and
improvement in the quality and reduction in the size of the loan
portfolio. Risk tendency also increased in Transition Businesses after
assets were transferred into this portfolio (see page 80).
Risk Tendency by Business Cluster
2003 2002
£m £m
Personal Financial Services 340 370
Barclays Private Clients 65 45
Barclaycard 525 435
Business Banking 280 280
Barclays Africa 30 30
Barclays Capital 130 210
Transition Businesses 20 5
Total 1,390 1,375
Non-performing loans, against which specific provisions are held, are
excluded from this calculation. Adjustments to these provisions in the
light of emerging information about the borrowers’ financial strength
can collectively have a substantial influence on the annual credit
expense that is not captured in Risk Tendency.
Credit Risk Portfolio Management
Barclays uses mechanisms such as credit derivatives, securitisations and
asset sales to reduce the uncertainty of returns from the credit portfolio.
The benefits are reflected in reduced credit risk provisions and/or
reduced volatility of earnings and consequently an improved return
on economic capital. More information on credit risk portfolio
management appears on page 50.
Risk Management
Credit Risk Management