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Risk assessment and the open banking revolution

Abílio Rodrigues
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Last editedMay 20233 min read

One of the most common procedures in the lending industry is the assessment of an applicant’s risk profile, to determine whether a credit should be approved or denied. 

The short definition of risk assessment refers to the process of identifying elements that can have a negative impact on one’s assets. This (ideally) careful evaluation will then translate to the decision-making process. 

This is done, firstly, to ensure that lenders are protected from customers who won’t be able to pay back. But also to provide solid options for customers from a wide variety of socio-economic backgrounds. 

But things are a bit different now, with open banking’s technology pioneering new ways of ensuring that everyone benefits from modern finance.

The past

Loans have existed since long before computers and the internet. But back then, people didn’t really have a reliable source of financial information.

Lenders had to take a lot of risks, since they couldn’t really evaluate if someone had the necessary means not to default on payments. They mainly checked if the potential customer had a job, trusting that no one would want to have his name sullied, or a “bad credit score”.

Another way to go about loans was having someone pose as a guarantor, who would be responsible for a percentage of the credit. This legal figure was secondarily liable for a hypothetical debt, guaranteeing that the lender would at least get some money back. 

Of course, if someone had a bad reputation for not paying his debts, lenders would avoid serving them, at least until some sort of collateral, like a property, was offered. 

Things have come a long way since then, mainly because the world became a lot more connected. Bank accounts became mainstream, and online financial data streams added a decent layer of protection for all parties involved.

The present

Risk assessment takes many forms, varying from country to country. Some countries are still highly dependent on credit bureaus that act on wider markets, while other countries rely on data available through traditional banks

To evaluate someone’s credit worthiness, lenders often request relevant information from external credit bureaus. Some even demand that applicants submit financial statements (like payslips or proof of expenses) that are then reviewed and serve as a baseline for decision-making. 

This data will later be used to fuel financial models that should be able to precisely estimate if someone who borrows money will default. One of the main drawbacks of this method is the bureaucracy associated with application forms. But there are a lot more challenges with the current processes.

Risk assessment: obsolete and expensive, or simply outdated?

Having a good grasp of someone’s risk profile has always been a challenge, mainly because today’s evaluations are built over outdated sources of information. 

These sources are also very expensive, especially if we factor in that the data is not particularly thorough. This might seem like a simple oversight, but it means that decision-makers don’t always have the most relevant information to estimate an applicant’s risk value. 

These processes can also be very lengthy and require a lot of effort from the customer. They do not, for this reason, meet modern expectations about financial products and services, and therefore have a high abandonment rate. 

The future: how can open banking help?

Open banking gives your business access to not only more refined data points, but also to more relevant information to support your decisions. 

This alone will help reduce your exposure to risk, while improving acceptance rates and customer satisfaction. 

It can additionally solve the friction issue that stems from the lengthy and cumbersome application flow. Faster decisions translate to less frustration, meaning that applicants won’t have to think about maybe taking their business elsewhere. 

Open banking simplifies things and offer unparalleled convenience. A rapid digital application process is paramount nowadays, as it takes us from spending days to submit documents to a few clicks until submission. 

Companies also benefit from streamlined operations, which have a severe positive impact on business efficiency. 

Modern financial technology is reliable, guaranteeing that all necessary information is verifiable, up-to-date and, more importantly, secure. Gone are the days when risk decisions were based on old data.

The labour market has changed, and assessing someone’s financial profile demands more granular information. There is no such thing as “too much data” on risk assessment based on open banking. 

Risk assessment and open banking: how does it work?

  1. Lender asks applicant to share open banking data (clear consent process, according to the PSD2);

  2. Open banking data is gathered by a Third-Party Provider (TPP);

  3. Data is categorised (indicating potential risks);

  4. Lender accesses categorised data and determines applicant’s ability to pay;

  5. Lender determines whether to allow or deny application for loan (or automates this process based on certain parameters);

The application process is also simplified for the applicant: it’s as simple as accessing the form and being redirected to a simple interface, where he selects his bank, logs in and consents to sharing his banking data. It’s that simple.

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