5 Ways to Mitigate Credit Risk

Inflation is putting pressure on consumers’ income and ability to pay bills. This rising cost of groceries and energy could lead consumers to have less money to pay back debts. According to TransUnion, default rates are holding at 1.51% but with the added financial burden of growing inflation, this could become a cause for concern. With that in mind, here are a few ways to mitigate your credit risk.

Use the 5 Cs of Credit

The 5 Cs of credit help give lenders a skeleton view of the risks in a particular loan. The 5 Cs, of course, are:

1. Character: the moral qualities of your borrower
2. Capital: assets owned
3. Capacity: ability of the borrower to repay the loan
4. Collateral: what is on the line if the loan defaults
5. Conditions: purpose of the loan, cost, and tenure

Using this time-tested structure to determine whether a loan is a good choice can help identify the intrinsic risk in a loan and mitigate that risk.

Employ Risk-Based Pricing

Every person you loan to is going to have a unique level of risk, and with risk-based pricing, a lender bases the amount of interest charged based on the individual’s chance of defaulting rather than a one-size-fits-all interest rate. Higher-risk borrowers are charged a higher interest rate. Risk-based pricing helps mitigate the possibility of default because its rate is tied to your risk.

Pricing Loans for Targeted Return

To mitigate risk, accurately project your return. Open Lending can help lenders determine pricing needed to hit the return they want to achieve on their auto loans. To diminish your credit risk “keep your eye on the prize.”

Learn more about how Open Lending can help your institution price for risk!

Monitor Exposure Limits

It is important to keep exposure limits at the forefront of your mind to manage credit risk. Not all loans are created equal, and some sectors of lending perform less well or take much longer to perform. Lending less to lower-performing assets, that may have a higher default rate, and increasing solidly performing loans, like auto loans, is a method of reducing credit risk.

Protect your Loan

The tried-and-true method of protecting your loan and mitigating credit risk has been collateral. In the event of default, you can always repossess the collateral like a vehicle and then resell it to make some of your money back. The problem with only using this method is you only make some of your money back.

Vehicles lose value the second they leave the lot, so the amount you recoup can be dramatically lower than the balance of the car loan. Are you leveraging Open Lending’s Lenders Protection™ to keep your assets covered while saying ‘yes’ to more loans?

To better mitigate your credit risk, the 5 Cs are still the way to go. Open Lending helps your financial institution even more effectively mitigate the risk, approve more loans and increase profitability.