What Is the Connection Between Market and Credit Risk?

Credit risk transfer refers to financial institutions, and generally refers to the use of various financial instruments by commercial banks to transfer credit risk to other banks or other financial institutions.

Credit risk transfer market

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Credit risk transfer refers to financial institutions, and generally refers to the use of various financial instruments by commercial banks to transfer credit risk to other banks or other financial institutions.

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The need for credit risk management in the banking industry

In the Latin American debt crisis of the 1980s and the subsequent Asian financial crisis, the crisis brought by the concentration of credit risk caused commercial banks to raise the requirements for credit risk management. However, each bank has a comparative advantage based on its geographical location and customers, which will inevitably lead to the concentration of credit risk. Under such circumstances, the traditional credit risk management methods of the banking industry, such as assessing the creditworthiness of a single borrower and reducing the risk exposure to a certain borrower or type of borrower, may lead to the loss of the bank's business or even the loss of large customers. A kind of credit risk transfer tool provides a solution to this "credit paradox" problem in the operation of commercial banks: while maintaining a credit relationship with customers, commercial banks can transfer part of the credit risk from the perspective of asset portfolio management. To avoid concentration of credit risk to a single customer and to the industry or region.

Development of credit risk measurement technology

Compared with market risk, credit risk has the characteristics of biased return distribution, difficult access to credit risk data, and non-systematic credit risk. Its measurement technology has been relatively backward. 1990s,

The primary purpose of financial supervisory authorities for the supervision of commercial banks is to ensure the safety and reliability of bank operations, and to protect the interests of the public and the stability of the financial system. Among various regulatory measures, the capital adequacy ratio is the most important indicator for measuring the robustness of commercial banks. Such capital requirements for commercial banks will motivate banks that fail to meet the requirements to transfer loans and their risks, thereby meeting regulatory requirements; while non-bank financial intermediaries such as insurance companies and securities companies can also purchase credit risk Means to enter the loan market that was otherwise inaccessible has promoted the development of loan sales and asset securitization markets. Later, various credit derivative products have provided banks with greater room to circumvent financial supervision.

Credit insurance and bank guarantee were the earliest credit risk transfer methods. After that, housing mortgage loans appeared in the United States in the 1970s, and loan sales markets appeared in the 1980s. The first credit derivative transactions occurred in 1993. year. At present, asset securitization and credit derivatives markets have developed rapidly in developed countries. Because of the differences in the degree of development of the financial system, financial supervision measures, and legal systems, the development status of credit risk transfer markets in different countries is very different, but in general, foreign credit risk transfer markets have shown rapid development. , Complex transactions, high market concentration, insufficient liquidity, etc.

Credit risk transfer market develops rapidly

The development of CD has promoted the development of the credit risk transfer market and improved the effectiveness of the capital market. CD separates credit risk from total risk and enables independent pricing and trading. For the first time, credit risk has the same hedging methods as market risk. Although the development of the CD market has only been for more than ten years, its development speed is remarkable. Through the credit risk transfer market, more and more financial institutions can enter the capital market, thereby connecting the various parts of the capital market more closely, realizing the effective integration of the capital market, increasing the liquidity of the capital market, and improving the capital market's effectiveness.

Participants in the credit risk transfer market

In the credit risk transfer market, in addition to being the main buyer of credit risk protection, commercial banks are also important sellers of credit risk protection. By selling credit risk protection, commercial banks can increase their positions in industries and regions with low business ratios, diversify their businesses, and take advantage of the spread space in the CD market to arbitrage. At the same time, the proportion of non-bank financial institutions in the credit risk transfer market is also rising, with insurance companies, investment banks, hedge funds, and risk funds being the most prominent. According to a study by the British Bankers Association, in 2004, insurance companies had a 33% market share in the CD market and are becoming the largest sellers of credit risk protection in the credit risk transfer market. These non-bank financial institutions can not only transfer credit risk in the business through the credit risk transfer market, but also can invest in the credit risk transfer market to indirectly enter the credit market, expand business areas, and increase sources of profit. These have further improved the liquidity and effectiveness of the credit risk transfer market.

Not only financial institutions, enterprises can also use the CD market to avoid credit risk from counterparties in their business. For example, using the CD market, companies can prevent potential credit risks due to accounts receivables that are too concentrated in a small number of large customers, and can also avoid the credit risks of project financing. In addition, CDs have also been used by market traders as an important reference standard for corporate credit ratings, thereby providing more external credit channels for risk assessment and pricing for modern credit risk management.

Technological progress promotes the development of a credit risk transfer market

In recent years, an important factor in the rapid development of the credit risk transfer market has been the promotion of technological progress. Technical progress mainly includes the standardization of credit products and the establishment of electronic trading platforms and credit indices.

The Distressed Interchange and Derivatives Association (ISDA) gave the definition of CD as early as 1999, and formulated standardized contracts. ISDA has made great efforts in advancing the standardization of CD and improving the transparency and liquidity of the market. Different financial institutions and researchers are continuously introducing and improving models for credit risk assessment and pricing.

Take I. P. Morgan's representative banks with large CD trading volumes have established CD electronic trading platforms. This not only improves the transparency and liquidity of the credit risk transfer market, but also improves its efficiency. After 2000, some institutions introduced the r-credit index, which provided the credit market with a new set of standards for liquidity, transparency, and diversity, so that credit risk hedged or speculative transactions could be carried out more conveniently on a standardized basis. The change in the price difference between index products and related products has created opportunities for arbitrage, thereby attracting market liquidity to shift to the CD market and the market size has expanded. The expansion of the transaction scale will further reduce the transaction threshold and increase the liquidity of the product, thereby attracting more investors to enter, and making some mature trading varieties begin to change from over-the-counter trading to on-site trading.

Credit insurance and bank guarantee were the earliest credit risk transfer methods. Housing mortgage loans appeared in the United States in the 1970s, and loan sales markets appeared in the 1980s. The first credit derivative transactions occurred in 1993. At present, asset securitization and credit derivatives markets have developed rapidly in developed countries. Because of the differences in the degree of development of the financial system, financial supervision measures, and legal systems, the development of credit risk transfer markets in different countries is very different.

Credit risk transfer markets in EU countries

According to a European Central Bank survey in 2004, the credit risk transfer market in EU countries developed very rapidly from 2002 to 2003, and various innovative tools continued to appear, especially for products such as mortgage debt equity (CDOs). There is a large gap in the market share of various market participants, and universal banks are the main players in the credit risk transfer market. in

In July 1998, the Bank of China Shanghai Branch and the Guangdong Development Bank Shanghai Branch signed an agreement to transfer the bank's creditor's rights, which was the first loan sale business in China. In March 2005, China Development Bank and China Construction Bank, as the pilot units of asset securitization business, began the pilot work of credit asset securitization and housing mortgage securitization respectively. The trading of various credit derivatives has not yet started in China. Although compared with developed countries, the development of China's credit risk transfer market is very lagging, but this shows the broad market development prospects from another angle. From the perspective of the mechanism, the development of China's credit risk transfer market has important practical significance: it is conducive to solving the problem of widespread credit risk concentration in commercial banks, improving the liquidity and anti-risk capabilities of bank assets, and increasing investment channels for institutional investors To improve the liquidity and efficiency of financial markets; increase the degree of credit risk diversification and improve the risk allocation function of the financial system. Judging from the development of foreign credit risk transfer markets, factors such as the risk management technology of the banking industry, corresponding regulatory measures, and the degree of development of credit rating agencies have an important impact on the development of the credit risk transfer market. Therefore, we can proceed from the following four aspects to prepare for the development of China's credit risk transfer market.

Improve risk management and technology in the banking industry

The emergence of the information risk transfer market has changed the thinking and methods of commercial bank credit risk management. The main methods of traditional credit risk management in the banking industry are to assess the creditworthiness of a single borrower and to monitor the borrower after the loan is issued to ensure that the principal and interest of the loan are recovered. The credit risk transfer market enables banks to transfer all or part of the credit risk of a loan or loan portfolio, or sell credit protection to obtain corresponding income, so that credit risk management of asset portfolios can be more proactive. However, if a commercial bank wants to achieve the purpose of credit risk management, it must have corresponding risk management technology. Compared with developed countries, the credit risk management technology and level of China's banking industry are far from the developed countries. The main manifestation is that credit risk measurement technology is difficult to accurately identify and measure credit risk. With the low level of risk measurement in the banking industry, the credit risk transfer market cannot be truly developed and it is difficult to produce its due positive effect. This can be analyzed from the following two perspectives: First, from the perspective of a single bank, because of the lack of accurate understanding of credit risk, the benefits of buying credit risk may not make up for the corresponding risk, or it may pay excessive costs for credit protection. The credit risk transfer transaction not only fails to improve the bank's risk management capabilities, but may also cause greater losses. Second, from the perspective of market development, because credit risk cannot be reasonably priced, even if there are many institutions willing to participate in the market, it will be impossible to complete transactions because it is difficult to reach consensus on pricing issues. Therefore, borrowing credit risk management technology from developed countries and developing a credit risk measurement model suitable for China's national conditions is the technical basis for developing a credit risk transfer market.

Actively develop and strengthen various institutional investors

In mature market economy countries, institutional investors such as pension funds, insurance companies, and mutual funds can play a positive role in stabilizing the securities market and improving the governance structure of listed companies. In the credit risk transfer market, institutional investors

Market participants improve their ability to measure and manage credit risk

The complexity of credit risk transfer tools has greatly increased the requirements for risk measurement and management capabilities of market participating institutions such as commercial banks, insurance companies, and securities companies. Compared with banks in developed countries, the credit risk management technology and level of China's banking industry are far behind, which is mainly manifested in the obvious lack of credit risk measurement technology and quantitative management. However, due to the lack of credit risk management experience, insurance companies and other financial institutions have low levels of corresponding risk measurement and management. With the low level of risk measurement and management of market participating institutions, the credit risk transfer market cannot be truly developed, and it is difficult to produce the proper positive effects. This can be analyzed from the following two perspectives: First, from the perspective of a single financial institution, because of the lack of ability to measure credit risk, the benefits of buying credit risk may not make up for the corresponding risk, and it may also pay too much for credit protection. cost. Such CRT transactions are unlikely to bring benefits to market participants. Secondly, from the perspective of market development, because credit risk cannot be reasonably priced, even if there are many institutions willing to participate in the market, it will be impossible to complete transactions because it is difficult to reach consensus on pricing issues. Therefore, promoting the commercial banks and other financial institutions to fully draw on the credit risk management technology of developed countries and develop a credit risk measurement model suitable for China's national conditions is the technical basis for developing a credit risk transfer market.

Development of various institutional investors

In foreign credit risk transfer markets, institutional investors have become the main buyers of credit risk because of their different funding sources and regulatory requirements from commercial banks. Therefore, the institutional investor and the credit risk transfer market are mutually reinforcing: the development of the credit risk transfer market provides a new investment channel for institutional investors; and the growth of institutional investors can promote the development of the credit risk transfer market. Moreover, institutional investors entering the CRT market can achieve greater diversification of credit risk. However, China's institutional investment industry is still immature, and there are obvious gaps in terms of capital scale, investment philosophy, and product development capabilities, and it is difficult to promote the credit risk transfer market. Therefore, it is necessary to promote the standardized development of institutional investors from the perspective of strengthening the scale, improving the quality of employees and legal norms, and laying a market foundation for the development of the credit risk transfer market.

Cultivate credit rating agencies

In the credit risk transfer market, the evaluation information published by credit rating agencies has played an important role in supplementing the decision-making of participating agencies. The publication of CRT product rating methods can improve market participants' understanding and measurement capabilities of CRI and products. In addition, the collection and collation of market data by credit rating agencies will also help improve the transparency of the CRT market and the understanding and supervision of the credit risk transfer market by regulatory authorities. However, the development of China's credit rating system is still in its infancy. Rating agencies have problems such as lack of independence, authority, and professionalism, and low credibility of rating information. In this regard, the supervisory authority can promote the standardized development of the credit rating industry by clearly stipulating the admission conditions of rating agencies and improving laws and regulations on information disclosure and credit rating.

Improve regulatory measures

CRT transactions are more complex and the market is less transparent. In addition, the CRT market has increased the degree of correlation between market participants and increased the possibility of cross-sector and cross-industry transmission of financial risks. Perfect regulatory measures are required to ensure the market. Orderly development. At present, the focuses of regulatory authorities in various countries during the development of the CRT market are consistent, such as participants' risk management capabilities, solvency, and the flow and distribution of risks. The corresponding regulatory measures mainly include capital requirements, market access, Reporting and disclosure of transaction information. In 2005, the "Measures for the Pilot Supervision and Administration of Credit Asset Securitization of Financial Institutions" (hereinafter referred to as the "Supervision Measures") issued by the China Banking Regulatory Commission have fully borrowed internationally mature regulatory experience from market access and capital requirements And detailed data reporting. Because various credit risk transfer tools have common features in economic principles and technology, the Supervision Measures can also be used as the basis for the development of supervision measures for credit derivatives. In addition, China's credit risk transfer market is still in its infancy. Regulatory authorities should also play an important role in reminding market participants of the risks that CRT transactions may bring, promoting the standardization of trading contract terms, and assisting in the establishment of databases.