Stress testing a multi-billion euro credit portfolio

A large French bank requires evidence that a potential distressed acquisition is not in the interest of the business.

 

Context

 

Our client, a subsidiary of a large French bank, required an investigation of its acquisition target, a bankrupt creditor with assets amounting to €33bn. The target was specialised in mortgage credit for low-income families and went bankrupt following the financial crisis. The French authorities pressured our client into considering acquiring the distressed creditor.

 

How we helped

 

As a creditor and bank, the target focussed on its asset-liability management (ALM). The mismatch between its assets and liabilities was so great after the crisis that it was forced into bankruptcy.

The job required several work streams, and the team was broken down to cover various components: credit portfolio analysis; refinancing review and ALM issues; P&L analysis; business plan modelling; and stress tests.

The three main questions for the stress tests were what would happen if (i) interest rates increased by 2% or 3%, (ii) the unemployment rate increased in France and (iii) the construction market for residential properties shrunk by 30%?

 

Outcome

 

The team looked at the potential impact of each situation on the credit portfolio and built 24 models to manage all the data (600,000 lines in Excel). The stress test was key because it provided the basis to prove that acquiring the target would be a poor business decision. Our analysis showed the target’s credit portfolio had a high risk of poor returns and could cost the bank up to €1bn in losses.

Through this engagement, the team developed the methodology to stress a credit portfolio via three parameters: interest rates, the unemployment rate and the construction market. Consequently, we were able to give the client the evidence required to prove the proposed takeover would be costly and not strategic.

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