Imagine if, as the first signs of stress emerged in the Californian housing market a decade ago, bank executives and regulators had been able to use their risk-dashboards to simulate and visualize the far-reaching consequences of mortgage loan defaults in highly-interconnected global markets…
In the UK, as interest rates rise ten years after the global financial crisis, uncertainty surrounding Britain’s exit from the European Union has created obvious stresses.
Economic growth is far from robust. The Office for Budget Responsibility forecasts a “relatively stable but unspectacular” growth trajectory around 1.5 per cent a year – below the long-term trend. The OBR cautions that a disorderly Brexit “could have severe short-term implications for the economy, the exchange rate, asset prices and the public finances.”
Estimates of worst-case or stress scenarios in The Bank of England Financial Policy Committee’s analysis of potential outcomes of a no-deal, no-transition Brexit contained “material adjustments to UK asset prices”. UK house price growth in the three months to October has slowed to its lowest rate in more than five years, Halifax says.
Only mortgage lenders with a holistic picture of the risks Brexit poses to their asset quality will be ready to respond quickly.
These risks could include a prolonged economic slowdown in the event of a hard Brexit, pronounced regional increases in unemployment as foreign companies disinvest, sharp declines in household income as unemployment rises – even reduced access to funding markets. Stress in the mortgage book spreads quickly to other consumer lending as banks tighten borrowing requirements and short-term funding dries up.
Mortgage lenders’ risk management and regulatory compliance typically rely on in-house models to simulate macro-economic events. Yet the scope of these models is limited if banks’ quantitative analysts use historical, top-down data assumptions in their model design – assuming the future will mimic the past. The cost and complexity of building high-fidelity models that better replicate market behavior, and the required high-performance compute capacity, can be prohibitively high.
Brexit-readiness through simulation
By contrast, Simudyne simulation software uses low-level micro-economic behaviours to model market dynamics. Simplifying the model building process and distributing seamlessly and securely across banks’ existing systems, Simudyne enables lenders to model and visualize in minute detail the effects of a Brexit-induced slowdown on their mortgage books by replicating all 27 million UK households. Equipped with this ability to pinpoint seemingly insignificant stress points, lenders can make better informed, forward-looking decisions.
The detailed insights gained through the safety of computer simulation can quickly be transformed into actionable foresight. Drawing on the lessons of running multiple what-if scenarios, mortgage lenders can pro-actively revise their strategy, approach potentially vulnerable borrowers in a Brexit-affected industrial area, slow or curtail mortgage origination and adjust overall risk appetite. Simudyne can help lenders mitigate potential risk and optimize bad-debt provisioning under different scenarios.
Ten years after the global financial crisis, as Brexit uncertainty mounts, the senior executives of today’s mortgage lenders who use Simudyne’s console can make enlightened decisions to build and defend income, reduce costs and better deploy capital.