Part II Commercial Banking, 11 Netting, Collateral, and Credit Risk Mitigation
- Banks as a lender — Credit risk — Guarantees and security — Netting
Credit risk mitigation is the umbrella term that covers the various different ways in which an exposure can be reduced for regulatory reporting purposes. This chapter discusses the three ways of doing this: netting against an existing exposure owed by the bank to the borrower; taking (certain types of) collateral; and obtaining cover from third parties in the form of guarantees or similar contracts. Banks use a several techniques to improve their position as lenders which are simply disregarded by the regulatory system, of which the most important are probably loan covenants. No matter how restrictive the undertakings which a borrower gives a bank as to the way in which it manages its business, or the way in which it will repay its loan, this protection will not be recognized for regulatory purposes.