Credit derivatives and Profitability of commercial banks : Impact of credit risk on performance of Nordea Bank

Abstract

Commercial banks are more conscious of credit risk due to diversity and complexity of modern monetary services. Additionally, due to the reform of banking industry, there is an increasing demand for investment in the capital market, which evokes the bank managers of a sound evaluation and management for credit risk. Since the credit trading and the related services embrace the main source of banks’ income, it is crucial distinguish the potential customers with the risky borrowers while remaining the profitable investment. The implementation of credit score and credit rating provides the optimum valuation scale for the investment decision making process.

The ability to foresee the probable losses is very necessary to decide whether to use the derivative products. The transaction of those financial instruments offers all the involved parties the great opportunities to enlarge their investment and reduce risks.

In our study, we research the credit risk management process and profitability improvement. The experimental test of Nordea Bank is employed to highlight the iteration between credit risk and bank’s performance. We establish two equations to present ROA and ROE (as the indicators for profitability) under the value of NPLR and CAR (as the indicators for credit risk). Our data is collected from Nordea bank’s annual report and the outputs are computed from Microsoft Excel regression test. The time period in our research is from 2003 to 2013 for all the indicators. The result from the regression test discloses the negative relation between credit risk and profitability in general. Both of the tests return the higher significant level of NPLR on profitability in compared with the result of CAR. However, in case of ROA, our findings are not remarkable enough to conclude the dependence of ROA on NPLR and CAR.