In his job as executive vice president at First Fidelity Bancorp., Norman McClave is always concerned about the quality of the bank's loan portfolio.
But throughout his career on the credit side of the business, Mr. McClave has observed that it is difficult for banks to get timely and complete information about their exposure in a certain industry or market segment.
"As a practical matter, very few banks manage their entire loan portfolio as a portfolio," said Mr. McClave. "They are managing it as individual transactions."
Now, Mr. McClave said, First Fidelity has a software tool that will help the bank keep a closer eye on how risk is spread across its $8.9 billion portfolio of business, industrial, and commercial real estate loans.
"My thesis here is that what has caused major problems in a number of banks has been the portfolio bets they have taken," said Mr. McClave, who works at the lead bank's headquarters in Newark, N.J. "And to the extent that we can look at these portfolio bets - determine what they are, first of all - then we can analyze whether we are comfortable with that large a bet."
To develop a way to get such information, $33.5 billion-asset First Fidelity entered into a partnership in late 1992 with Hogan Systems Inc., the Dallas-based software vendor.
According to Mr. McClave, the idea for the system grew from discussions the bank had had about another of Hogan's products, the Earnings Analysis System.
"It occurred to me that if they could do that for profitability, they could probably do it for credit risk," recalled Mr. McClave. "So I said, 'Why don't you put a different body on this chassis and come up with a credit risk system?"'
Within 14 months, the Risk Assessment System was ready for a beta test at First Fidelity. It went live near the end of last year.
Essentially, the Hogan system takes feeds from First Fidelity's mainframe processing systems for commercial loans, real estate mortgage loans, letters of credit, leasing, and so on.
Each loan is classified in a number of ways. "We will code in the industry or industries that the company is in," said Mr. McClave. "We will code by what we call geographic dependence, which is not simply the address of the company; it is: over what geography does this company operate?"
First Fidelity also tags each loan with other information, such as the sales volume of the borrower, the financial strength of the company, and how long the bank has done business with the customer. A company's other relationships with the bank - loans to subsidiary firms or joint ventures, for example - are also noted.
Loans are also marked by internal factors such as organizational lines (wholesale or retail bank) and legal entity (which subsidiary).
With relational data base technology, the bank is able to sort and manipulate information.
Mr. McClave offered an example: "What relationships do we have in the wholesale bank that are in one of the following five industries for companies which have sales volume over $50 million and in which we are collateralized by inventory?"
Previously, he said, it was difficult or impossible to get that kind of analysis. "And certainly, we would not be able to get this information is anything like the speed and accuracy here."
The ability to easily tap that kind of information can be a key factor in keeping the bank out of loan troubles, he said.
A number of institutions, he noted, have had what appeared to be diversified loan portfolios that were ultimately dragged down by a factor such as the collapse of oil prices.
"Much of our portfolio over the years, of course, has been developed by individual lending officers who will try to judge an individual transaction well. But they are not aware of the portfolio as a whole," he said. "At some point, even if you think you have taken good, thoughtful credit judgment on every single loan, if in the end you simply have too much of that sector in your portfolio, your portfolio is susceptible to changes in the (economic) environment."
Mary Quinn, an analyst with Keefe, Bruyette & Woods Inc. in New York, noted that it's not new for banks to monitor such exposure in their loan portfolios. But any operational tool that provides better information is welcome, she said. "It sounds like an improved method."
She also noted that with the rise of limited partnerships in the 1980s, it was often difficult for bankers to know how much real estate developers applying for loans had already borrowed from competitors. That situation was a factor in the heavy real estate losses suffered by many banks, she noted.
But to make the system useful, Mr. McClave noted, First Fidelity also needs information on the economy. The bank regularly receives economic data and forecasts from WEFA Group, an economic consulting firm based in Bala Cynwyd, to check, might be two wordsPa.
"What we are trying to do is understand the macroeconomy and then try to link macroeconomic movements to our portfolio," said Mr. McClave. "You need to not only understand the national context, but you certainly need to look at the impact on specific regions, and also various specific segments."
The WEFA numbers, which are based on years of Internal Revenue Service figures and other data, track the fortunes of 90 industries.
First Fidelity particularly wanted to pin down - as much as possible - which industries tend to be tied to the fortunes of others. So far, WEFA has found six industry groups that tend to move in concert.
Armed with that kind of information, First Fidelity hopes to be able to better manage its loan portfolio. "If I say, boy, I really think the economy is going to be very adverse toward this segment (of the economy), then we better manage this segment very tightly," said Mr. McClave. "There are things we can do to strengthen our loans. Maybe we should not be making any additional loans in that sector; maybe as loans mature we should not replace them; maybe we should try to decrease our exposure."
In addition to flagging potential problem loans, Mr. McClave emphasized, the data can be used to find opportunities. If, for example, the WEFA data indicate that an industry with a rocky past is beginning to stabilize and grow, the bank can expand its lending in that area.
While Mr. McClave sees tremendous opportunity for Risk Assessment System, he noted one major challenge in implementing it: making the information consistent across the bank.
"Currently, you have repetitive data not always consistent in each of these loan systems," he said. "And because the relationship officers don't necessarily see (the) data all of the time, inconsistencies are not always picked up."
Further, he said, a unit of one company may have a different borrower number than the parent, which would give an incomplete picture of the total customer relationship.
"There is a certain amount of cleanup work that inevitably needs to be done," he continued, adding that "all of this is manageable."
But it did require developing a corporate customer information file, an endeavor that is largely complete. Mr. McClave noted, "It is working now attached to (the Risk Assessment System), but we are expanding it to do some other things."
Another advantage of the Hogan system, First Fidelity officials said, is the ease with which information can be tapped. "The system is designed to download into any number of commonly available PC programs," said Mr. McClave. "In our case, we use Lotus 1-2-3. . . . RAS will sort the information and present it and then can download it in a spreadsheet." And in that spreadsheet, he said, the bank can further manipulate the information "and present it in any way we want to."
Further, he noted, the data can be used for regulatory reporting and board reporting.
Indeed, the bank has ambitious plans to produce reports for managers and loan officers as well. "We have organized a series of report templates," said Mr. McClave. "We've programmed about 80 of these and designed about 120."
In the future, he continued, a unit manager will be able regularly and routinely print out reports relevant to his division.
"There is nothing (here) that is some giant intellectual breakthrough," said Mr. McClave. "(But) it certainly is an implementation breakthrough.