Lending institutions clearly need analytics when evaluating their own loan book: static analyses of concentration and risk, backward-looking performance analytics, and forward-looking forecasts. Why, then, are similar analyses of participated loans missing or ignored? Why do participation parties so often follow a “transact and forget” approach?
Owning only a fraction of the loans doesn’t change the fundamental mantra: what gets measured, gets managed. The better approach is transact, track, learn, refine.
Portfolio management
Your participations are an integral part of your concentration and risk profile. How diversified are they across credit scores, loan products, geographies and industries? Has that changed since the transaction date as prepayments and charge-offs altered the mix? And how does that risk look within your overall loan book? Portfolio managers need analytics that handle this multi-level view and show how further purchases or sales can even out concentration.
Historical performance
Without a participation’s observed prepayment, charge-off and delinquency rates, you can’t compare actual performance with the assumptions made at sale, or judge whether you got the benefit of your bargain. History also informs the next deal. High credit-score auto loans may look wise, but are high prepayments cutting your interest income? Sellers seeing lower prepayments and defaults than expected might raise the price on their next offering. Decisions can respond to real data, not rough rules of thumb.
Forecasted performance
Forecasts of a participation’s IRR (yield to maturity) give a concrete measure to compare against CDs or bonds. Prepayment and amortization forecasts show how quickly participations will pay down, how much interest-rate risk you hold, and when to plan reinvestment.
Technology removes the barrier
Cloud computing and storage have eliminated the right tools as a technical barrier to generating analytics, even for the largest participations. It takes either financial engineering expertise or an outsourced solution. Participations deserve the same rigorous analysis as any other asset on your balance sheet.