Two estimates describe the risk profile of a portfolio: expected loss is the average rate of loss expected from a portfolio and unexpected loss is the volatility of losses around their expected levels. If losses equaled their expected levels there would be no need for capital. Unexpected loss determines the economic capital requirement.

Our solution for economic capital estimation is particularly targeted to retail lending, an area that lacks a principled approach for economic capital. Our solution is based on a proprietary three-tiered framework for cashflow modelling of a retail portfolio: pooling, product lifecycle modeling and portfolio simulation. The framework integrates sophisticated expected loss modelling with the analysis of unexpected losses needed to determine economic capital.

Our solution can help a bank accomplish two goals:

(i) A common currency of risk that can be used to aggregate or compare the risk-adjusted profitability and relative value of portfolios/businesses with widely varying degrees and sources of risk

(ii) Evaluation of the overall capital adequacy in relation to the risk profile of the institution.

Key features of our software solution include the ability to explain changes in economic capital attribution and the ability to perform “what-if” analysis.