Size of the economy, the basis of the economy, and its vulnerabilities;
Growth prospects for the economy and the rate of monetary and credit growth relative to economic growth;
Dynamics of savings and investment in the economy; sensitivity to reversals of foreign portfolio investment;
Structure and overall financial strength of the corporate and personal sectors;
Openness of the economy, the extent to which its performance is correlated with that of neighboring countries and other trading partners, and the strength and cyclicality of trading partners' economies;
Typical business cycle: volatility of the economy as measured by the peak-to-trough variation in GDP; typical peak-to-trough variation in unemployment, asset prices (including real estate), and bankruptcies; structural changes in the economy that could cause peaks and troughs to change;
Structural problems facing the economy, the correction of which may require policies that depress economic activity (e.g., structural fiscal deficits, structural current account deficits, structurally high inflation, a lack of international competitiveness in important sectors of the economy);
Constraints on policymakers' ability to pursue appropriate countercyclical policies; and
The country's political stability.
Industry Risk
Structure.
The basic structure of the banking system, which includes the number and relative sizes of institutions and restrictions on geographic or product expansion;
Proportion of finance in the economy that is intermediated through the banks; nonbank competitors in the market and the extent to which they pose a serious challenge to the banks in their role as intermediary in the economy;
Depth of publicly traded capital markets and the trends in this area;
Dynamics of inter- and intra-industry competition, barriers to entry, expectation of change, degree of disintermediation in industry;
Consolidation trends in banking system, the number of banks and branches in relation to the population, and impediments such as labor laws that negatively impact the bank's ability to reduce overheads;
Strategic stakes in industrial companies and types of benefits and risks posed by these holdings;
Extent to which political or other interests are able to influence the decision-making process at the bank;
Quality and transparency of accounting and reporting systems and the quality of external auditing; and
Strength and efficiency of country's legal system.
Customer base.
Price sensitivity and level of sophistication of the customer base;
Financial strength of the personal sector and the level of social benefits in the country in question; and
Relationship between banks and corporate borrowers.
Regulation and deregulation.
State, national, international regulatory, and legislative framework, including current and potential initiatives;
Regulatory structure; level and quality of supervision, and the degree of regulatory independence types of reporting by banks to the regulatory authorities. Actions authorities are empowered to take measures to avoid problems at banks and avert imminent bank failures; the track record of regulators in handling individual bank or systemic banking crises; present attitude of regulators with regard to providing liquidity and solvency support to banks and other types of financial institutions, and expected changes, if any;
Form of deposit insurance, if any;
Government's philosophy of laissez faire or interventionism with respect to banks and the corporate sector and the likely changes in this attitude; and
Process of deregulation, areas within the financial system that have already been deregulated, further steps expected, time frame for deregulatory process and expected impact on various market segments.
Ownership structure of banks.
Degree of government ownership within the banking system, the extent to which government-owned banks perform any special public sector role or compete on an equal footing with private sector banks, the extent to which government involvement in the system affects the competitive dynamics in the banking market; and
Degree of ownership of banks by corporate groups or individuals, and advantages and disadvantages of or dangers stemming from these relationships.
Market Position
Bank's market shares in key businesses and the size of those markets;
Real advantages stemming from bank's market position (e.g., pricing power, funding base, quality of business, etc.); and
Vulnerability of market position.
Diversification
Diversity of products/business lines/customer base;
Geographical spread of bank's business base;
Economic diversity of bank's home market(s); and
International diversification: size and extent to which adds real franchise value.
Quality and depth of management: dependence on key personnel, continuity, line of succession, strength of middle management, management's relationship with regulators, ability to manage through disruptions/adversities in primary markets and the ability to manage new business lines;
Independence of bank management: influence of shareholders or the government/political parties on strategic or day-to-day decisions;
Quality of planning process: (financial and strategic);
Credibility of management: (comparison of past performance with budgets/plans);
Logic and risk of strategic direction; and
Growth (external versus internal, merger and acquisition planning, track record of past acquisitions, and acquisition; and financing policies and practices).
Accounting
Accounting principles used, and differences from IFRS or U.S. GAAP.
Sphere of consolidation, including financial and funding subsidiaries, joint ventures, special purpose vehicles, nonfinancial subsidiaries, securitization conduits, and participations.
Accounting for past due loans, restructured loans and workouts, other problem loans, foreclosed and other problem assets, commitments, and contingencies.
Adequacy of problem asset coverage, including provisioning policy and valuations.
Securities valuation policies, differences between book and market values, impairment charges, and hedge accounting practices.
Valuation of other balance-sheet items, such as real estate, deferred tax assets, intangibles, foreclosed assets, and derivatives.
Overall quality of accounting for earnings, considering the impact of special and nonrecurring items, accounting changes, and other smoothing techniques.
Off-balance-sheet items, including pensions and other post-retirement benefits, contingent liabilities, and derivatives.
Revenue recognition policies, including interest accrual on problem loans and securities, fee income, and income from securitizations.
Expense recognition, including timeliness of loss provisions, impairment charges, pension expenses, deferred taxes, and stock-based compensation.
Use of expense reserves (including restructuring), their materiality, and movements.
Realized and unrealized gains on sales of investment securities, trading, and hedging gains and losses.
Inflation accounting, if relevant.
Credit Risk
Structure of balance sheet, including relative proportion in different low-credit risk assets (e.g., government bills or interbank deposits) compared with higher-risk assets (e.g., loans or equities);
Fixed-income securities (breakdown by type, largest positions, and market value and maturity structure);
Equity securities (breakdown by economic sector, largest exposures, proportion of investment portfolio relating to previous underwriting positions, investment strategy, book value compared with market value);
Credit portfolio broken down by maturity, loan type, collateral, customer base, economic sector, size, currency, and country;
Concentrations of credit risk, such as large exposures to specific industries, markets, and individual borrowers, or in specific loan types;
Problem loans: large problem-credit exposures, levels in and changes of nonperforming assets, past-due loans, restructured loans and other problem-asset categories; and expected future trends;
Loan loss reserves, broken down by type, such as general and specific, reserves against on- and off-balance sheet exposures, taxed and untaxed; reconciliation of each type of loan loss reserve over the past five years, showing new provisions, liquidations of provisions, charge-offs and recoveries; and
Reserving policy and adequacy.
Market Risk
Structural risks.
Management's philosophy regarding asset and liability management and balance sheet structure;
Levels of interest rate, foreign exchange, and equity risks in the balance sheet;
Role of Treasury Department and objectives and risk appetite;
Reasons for structural risk: legal restrictions, regulatory requirements, limitations of local funding or hedging markets, or position-taking;
Use of noncash market instruments, such as futures, forwards, and swaps; and
Past and future position-taking and balance sheet flexibility.
Trading Risk
Description of current organization;
Trading strategy on group basis and by individual products;
Review of historic trading activities by product and market, including size of positions, volatility of net revenues, and profitability. Proportion of revenues from sales, jobbing, arbitrage, and directional views. Liquidity of markets in which bank deals;
Perceived market strengths and weaknesses; market position and appetite for position-taking;
Future product and market expansion plans; and
Breakdown of products by currency, credit quality, volume, and maturity.
Funding and Liquidity
Composition of bank's funding (core retail compared with other retail, semiprofessional, and professional markets);
Diversity of funding sources, such as deposits broken down by geography and size, access to and importance in local and national capital and money markets;
Flow of funds (net deposit flows, deposit maturities, stability of funding);
Asset liquidity, which includes short-term deposits and securities, long-term marketable securities, extent of pledged assets, ability to sell or securitize loans; liquidity facilities at central bank and other sources of asset liquidity; and
Management's philosophy with regard to liquidity, as well as liquidity planning.
Capitalization
Capital composition. Quality of capital: levels of common equity, preferred stock, convertibles, subordinated debt, perpetual debt, minority interests, goodwill and other intangibles, revalued assets, unrealized capital gains, loan loss reserves in excess of probable losses, and other types of quasi-equity. If a holding company structure is involved, level of double leverage;
Comparison of capital with perceived level of risk in institution's business: BIS risk-weighted assets adjusted for high credit risk assets (e.g., equities or specific types of lending) or market risk activities;
Bank's capital position with respect to domestic capital requirements and BIS requirements;
Dividend payout ratio, internal growth rate of capital;
Absolute size of bank's capital base and its ability to absorb extraordinary, unexpected losses that could arise, given the bank's business mix;
Ability to tap external sources of capital and long-term funding. Bank's market capitalization compared with book value; and
Management's philosophy regarding risk asset and loan leveraging of its capital base, and capital projections.
Earnings
Net interest income: margin trends and ability to maintain volume;
Noninterest income: diversity and sustainability of other income sources and growth potential;
Operating expenses: level and trend of overhead relative to the company's business mix and distribution network, degree of automation in comparison to peers', ability of earnings to meet current and future needs;
Loan loss provision (current level, past volatility, and ability to absorb future requirements);
Net operating income analysis (level and trend);
Quality of earnings: proportion of income recognized as core earnings, proportion of earnings from trading activities, ability to price risk into various products, and actual return on the perceived risk in the book;
Impact of extraordinary gains and/or charges;
Tax position: management's philosophy toward tax payment position and cushion, including historical and future use of net operating loss carrybacks and carryforwards, other strategies that affect tax position;
Impact of inflation on earnings, return on equity versus the reporting period's inflation rate;
Earnings outlook, year-to-date budget versus actual, projections for following year and medium-term plan; and
Quality of bank's accounting practices.
Risk Management
Credit risk.
Underwriting criteria, the approval process for different types of products or customer groups, for example, (fixed-income securities, investment or trading equities, mortgage loans, consumer loans, and corporate loans), delegation of approval authorities down through organization, and collateral valuation;
Monitoring of credit exposures: control at time of loan disbursement; review function; internal rating system; delegation of responsibility for identifying potential problem exposures; role of audit department; and
Problem assets: Responsibility for follow-up; collections; aggressiveness with which problem credits are handled; collateral foreclosure policies.
Market risk.
Senior management's understanding of market-risk issues and its involvement in risk management decisions;
Membership of the asset-liability committee (ALCO) or other decision-making body, reports filed with ALCO, how its decisions interact with daily risk management, limits set by ALCO for different types of risk;
Information technology: description of software used to monitor structural and trading risks, adequacy of computer systems in relation to the current and projected levels of market risk inherent in the bank's business, as well as management's risk appetite;
Strategy regarding intentional position-taking, limits, and authorities required for breaching limits;
How traders and desk heads monitor positions and how the system interacts with overall risk management system;
Hedging strategies;
Description of method(s) by which market risk is measured and assumptions used;
Stress testing: frequency and assumptions, flexibility;
Back office and operations: organization vis-à-vis trading floor, valuation of positions, and disaster recovery;
Audit function;
Accounting policies; and
Track record, including major errors in recent years.
Financial Flexibility
Ability to access various funding markets and raise capital from public or private sources, generally, and in a difficult environment;
Internal reserves that could be used to cover unexpected losses;
Franchise value of discreet businesses, assets where the market value is significantly greater than the book value, ability to sell, likely value in stressed situations; and
Likelihood of support from governmental or private shareholders.
