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March 11, 2008
Changing credit scores - and new set of intangibles
One of the grand intangibles in the lending business is the credit score. Two things go into any lending decisions: what is the likelihood of the loan being paid back and if the lender can pay back the loan, what do I get in return. Intangibles come into these decision in both areas. The latter is covered by collateral--and intangible goods, such as intellectual property and song/movie rights (even donor lists) are sometimes used for collateral. The part about assessing the risk of default has always been much more intangible. Part of making that intangible quantifiable was the use of credit scores. As the Wall Street Journal (Credit Scorers Find New Ways To Judge You) explains, "For many years, loan approvals were determined largely by borrowers' credit scores, which are based on proprietary formulas that include such things as debt levels and loan-payment histories."
But, as the story goes on to say, that is changing, "Now, lenders increasingly are looking at other factors, such as rent and utility payments, to determine whether potential borrowers will make good on their loans."
Incorporating this new set of intangibles will open up the housing market to potentially some 50 million new borrowers. But as the sub-prime meltdown illustrates, that come with some risk. The credit scoring industry will need to convince lenders that the new system is fair and accurate. How they make that pitch and how it is received will say a lot about the current market's tolerance for new financial ideas right now. It will have to be accepted on "safety & soundness" grounds based on more and better information--rather than as a means of expanding the market. If the change is successful, it may bode well for others to try to also expand increased lending on intangible assets on the other part of that decision: the use of intangibles as collateral.
Posted by Ken Jarboe at March 11, 2008 11:17 AM
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