Dear Gini,

Almost every day our senior management is asking us how we are adjusting our strategies in response to actual macroeconomic indicator changes. We know we can develop strategies and test them under various scenarios. We’re already doing this in our BASEL environment for reporting and setting capital requirements. As an example, how should I make adjustments to my underwriting criteria when there are changes in GDP growth?

Thanks,

George

Dear George,

Your senior management team is about to drive off a cliff. “Why?” you ask. Because they’re driving around with the car windshield blacked out and using the rear view mirror as their main navigational guide.

News flash! GDP growth is a lagging indicator for your customers’ credit behavior. They lost their jobs months before the GDP registered its first decrease. Waiting until GDP declines to tighten your underwriting criteria opens the door to booking a higher rate of underperforming loans. Sadly, this is true of most macroeconomic indicators. If your senior management doesn’t realize which macroeconomic indicators lag behind retail customer behavior, their car should be towed. Okay, maybe that’s a bit drastic, but they should at least be fired.

So, what’s the good news? You can be the hero! “How?” you ask. Know which macroeconomic indicators to watch and build your strategies around them. A good one to follow is the Customer Confidence Index. Another great indicator to monitor is Housing Starts. When housing construction projects decline, this indicator drops signaling an economic slowdown that could impact property values.

Now I know you’re saying to yourself, “Gini, that’s great but what about the other macroeconomic indicators? Which do I watch and which do I disregard?” Do you really expect me to do your job for you, George? Come on that’s not how this works. Luckily for you, Dr. Breeden has already done the heavy lifting. All you have to do is read “Reinventing Retail Lending Analytics: Forecasting, Stress Testing, Capital and Scoring for a World of Crises,” by Joseph L. Breeden, ©2010.

Now, go get the windshield cleaner and wash your senior managers’ car windows before there is an accident! Then, direct your team’s attention forward to the great expanse of road ahead of you and find some leading indicators!

Yours truly,

Gini

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