Risk based pricing / ROE
Return on equity is a measure of whether a product or strategy is worth investing in and evaluating this measure for all new business is seen as a key strategy to ensure long-term sustainability.
Assessing the business in such a way allows for the understanding of the risk being acquired and the associated returns over the lifetime of the lending. In conjunction with a target hurdle return rate, aligned to the overall companies’ strategy, it is then possible to identify whether the lending is desirable to the business. This view can then be utilised in both pricing and cut-off decisions for all lending propositions.
In pricing the overall returns of new propositions can be assessed to ascertain the alignment of the offering to the financial ambitions of the company. Cut-off settings can be analysed at a more granular level to understand the risk levels that are sustainable for each proposed offering.
Risk Based Pricing allows a Financial Institution to offer more attractive headline rates to the market with additional prices to effectively manage the risk worthiness of a customer.
4most has gained extensive experience in successfully delivering models utilising IRB metrics and calculating expected lifetime return on equity, whilst also allowing for the ability to flex the through-the-door population. This is based on a products proposition offering and incorporating future economic trends and in some cases, utilising existing IFRS9 model outputs.
Our solutions can help you:
- Gain a deeper understanding of returns across the risk spectrum
- Identify any potential areas where sufficient returns are not being made, either in a current or alternate economic environment
- Evaluate headline rates and additional rates for effective Risk Based Pricing.
The lower headline rate will increase applications and the quality of applicants. The additional price points will also allow for a Financial Institution to accept more customers and deliver higher profitability overall.