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Observation
Snapshot
Performance
Snapshot
PAST
Observation
Period
PRESENT
FUTURE
Performance
Period
Good-bad Definition
The accounts are classed as good / bad /
indeterminate based on performance during the
performance period. For example:
Bad = bankrupt or 3 or more payments missed
within 9 months
Indeterminate = ever 2 payments missed or
always inactive or very low balance during 9
month observation period
Good = always up-to-date payments or ever 1
payment missed
Good-bad evolution
Good-Bad Evolution
120.00%
100.00%
80.00%
69% of accounts that go
bad in 18 months can be
identified after 9 months
60.00%
40.00%
20.00%
0.00%
1
2 3
7 8
9 10 11 12 13 14 15 16 17 18 19
Characteristic Selection
70
60
10.00
50
40
6.00
30
Scores
Good-Bad Odds
8.00
G/B Odds
Scores
4.00
20
2.00
10
0.00
0
1-50
50-70
70-80
80-85
85-90
90-95
95-97
97-100
100-101
Other
Bands
10/30/2013
35
Model Build
10/30/2013
36
Model Build
n
0.8
0.6
0.4
0.2
0
0
200
400
600
800
1000
Logistic Regression
n
0.8
0.6
0.4
Good/Bad Probability
0.2
Logistic
Linear (Good/Bad Probability)
0
0
200
400
600
800
1000
Models
p=
exp j= 0 j x j
k
1 + exp j = 0 j x j
k
Reject Inference
Reject Inference is necessary for application scorecards
because there is no performance information for the
rejected applications
Applications that are rejected should be included in the final
model
Validation
A randomly selected control group (hold out sample) or
proxy portfolio is used to test the model.
Scoring
System A
% APPLICANTS
Goods
10%
Scoring
System B
% APPLICANTS
5%
Cutoff
Bads
Goods
20%
5%
SCORE
Measures of Discrimination
Scorecard performance can be judged on the level of discrimination
Two measure that can be used are:
Gini (or ROC) the area between Lorenz Curve and random line
PH - % of Goods below 50% of bads
Lorenz Curve
1
0.9
Cumulative Bads
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
0
0.2
0.4
0.6
10%
Cumulative Goods
0.8
Gini = 62%
Advantages of Scoring
Defines degree of credit risk for
each applicant
Ranks risk relative to other applicants
Allows decisions based on degree of risk
Enables tracking of performance
over time
Permits known and measurable adjustments
Permits decision automation
but BI in Consumer Lending goes much beyond ...
90%
Perfect
80%
Random
70%
Building
60%
50%
Validation
40%
Total
30%
Fico
20%
Behavior
score
10%
0%
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100
%
Cumulative % of Cure Accounts
Cohort or
Segments
Groups of
accounts with a
similar profile
Predictive
Models
Collapses
information into a
Score to rank-order
populations based
on account
characteristics
Strategies
Matrix of Segments
and Scores to
increase granularity
of decisions
Optimization
Combine predictions
risk, revenue - into a
single metric or objective
Assign an optimal action
for each account while
satisfying business
constraints
Evolution of Methods
Optimization
Behavioral Scoring
Risk Scoring
Criteria Based Rules
Little / No data
Criteria-based
rules
Decision impacts
not understood
1985
Enhanced
Strategies
Simple Strategies
Behavioral Risk
Decision platforms
Response
Profiling and
segmentation
Revenue
Champion /
Challenger Testing
CRM Platforms
1990
Attrition
1995
Optimized
Strategies
Optimization
Engines
Acct-Level Profit
Acct-Level Actions
In-Market (Closedloop) Testing
2000
Behaviour
Score
Actions
Credit Limit
Increase /
Decrease
Action-Effect Models
P(Attrition)
Expected
Revenue
P (Default)
Utilization
PROFIT
Change in
Balance
Propensity
to Revolve
Credit Price
Increase /
Decrease
LGD
Expected
Loss
Action-Effects Models
Action-Effects models are:
A prediction of customer reaction to an action taken
What your models look like depend on your action set as well as what
information is known about the customer
Action-Effects models are sensitive to actions (traditional predictive
models aim to be robust over possible actions)
0.25%
>2 Months
<2 Months
0.20%
Attrition Rate
Extrapolation
No Historical Inf :
Extrapolation
0.15%
0.10%
Action effected the
behaviour
0.05%
0.00%
500
1,000
1,500
2,000
CL Action
2,500
3,000
3,500
Optimized
Scores
High
Cutoffs
Optimized
Scores
E[Volume]
Low
Cutoffs
Optimized
Scores
E[Profit]
E[Loss]
Single Score
Single Score
High
Cutoffs
Low
Cutoffs
E[Loss]
E[Volume]
Single Score
Efficient Frontier
High
Cutoffs
E[Profit]
Solution
Optimization used in real-time during credit card application process
Identifies which customers receive which initial limit*
Adaptive control rules
Benefit
Revenues
111.2M
Revenues
118.2M
+ 6%
Credit
Losses
48.4M
Credit
Losses
46.3M
- 4%
Other
Costs
52.2M
Other
Costs
51.2M
- 2%
Profit
10.6M
Profit
20.7M
+ 96%
Leading
Credit Card Issuer
Solution
Optimization used during end-of-month statement process
Identifies which groups of customers receive an increase in credit limit and by how much
Implemented through a refined strategy tree
Generates incremental profit of 3 per account per annum when optimizing tree-based
strategies (estimated at 7 per account per annum when optimizing individual
customer strategies)
Benefit
Generates incremental profit of 7% over
the existing Champion strategy for same
bad debt and exposure levels
Now considering optimal timing of
increases to coincide with seasonal
patterns in retail category spend
Leading UK
Personal Finance
Lender
Optimization used to determine the optimal price (APR) to offer new customers
Optimal decision based on:
Deal profitability, Propensity to take up the offer and Credit risk losses
Challenge
Benefit
Benefit
Business as usual
10 million customers
6.66M
6.08M
1.969M
Offers
Sales
- 3%
+ 19%
572K
14,202
Revenue
s
Profits
Budget
+ 32% + 35% - 5%
Optimization
8.80M
8.25M
1.914M
16,886
Offers
Sales
543K
Revenue
s
Profits
Budget