Reducing the risks of property loans : a decision framework

Abstract

This research attempts to develop a model or framework for better decision making when a lender is considering making a property loan. The research considers the international literature on the management of problem property loans by lenders, the causes of those problems, and steps to resolve the problems. By analysis of the problems encountered, issues for consideration when making a property loan are advanced. Following an identification of the important issues to consider a review of a sample of property transactions in New Zealand is undertaken, in particular risk mitigation techniques employed by a large trading bank. The literature review and research data are then combined to produce a decision framework. The results of the research suggest that it is possible to develop a process for considering individual aspects of risk when considering a property related loan advance. This may involve not only the use of new or developing financial instruments, but also cross-fertilisation of lender experience. The decision framework may be used to improve the loan approval process, formalise a body of knowledge for use by other lenders and borrowers, and increase the profitability of property lending by leading to a more accurate pricing of risk, or a reduction in lender risk for a given return.