We in the Western cultures have a tendency to want to measure everything. If we can get to one number to describe something, it is easier to talk about.
Having a scoring model that gets to one number makes it easier for corporate managers to say "I used the scoring model consistently" and to make it easier for risk managers to bucketize all the applicants and make faster decisions at lower decision cost.
There may be ~50 different scoring models, but they don't deal with 50 different variables. There is only missed payments, number of months of payments, amounts available on free credit, amount already borrowed and owed, measures of income history, assets available such as real estate, and a few others. Within each of those variables, of course, the individual's experience and volume of examples vary, but the available types of information are limited. Even the types of information that can be measured is limited. Only actual transactions can be measured. Intentions cannot be measured.
The experience of new borrowers getting limited credit lines until a payment history with that lender is built, then the credit offering may expand, leading to the FICO or other scoring seeing more credit being granted, becomes a snowball of growth in credit. That means lenders are making decisions on the fly, with actual payment experience and less input from the outside world, other lenders, except in periodic checks with SP of CRA information. The big factor in ongoing lending risk management has to be the actual experience of the individual borrower, in that account, because the relevance and availability of specific information is so large compared to the CRA report.
The larger lenders are running the business as a risk-probability system rather than measuring and mitigating each person as an individual risk. The lenders know that some unforseen circumstances will cause a certain percentage of their borrowers to not be able to pay back what is owed. Once someone fails in the payback steps, then their perceived risk goes up, FICO and other scores go down, available credit is reduced, until a new build up of payment patterns results in perhaps new credit being granted.
There is a certain amount of herd mentality when someone is getting credit offers from multiple lenders. The lenders also need to have internal risk models once someone actually starts drawing on those credit lines, to monitor payment patterns and make adjustments including CLI, CLD, and direct contact with the borrower to respond to risk-flagging behavior of all kinds. Financial Review anyone?
There is no specific weighting of the risk models. They have tendencies, but each borrower - lender interaction has it's own nuances so there cannot be a cookie-cutter approach.
That is why YMMV.
That's the thing about using numbers to measure things like creditworthiness: People learn how to manipulate those numbers.
The card companies go on the presumption that the average person isn't going to try to manipulate the system, the vast majority of people are just trying to get some credit to buy. Some shouldn't be trying, due to lack of resources, but that is where the refinement and changes in the scoring is done.
"What gets measured gets done" and the corollary: What can be measured can be manipulated.
@RobertEG wrote:FICO is not intended to be a measure of "creditworthiness."
It is only intended to represent the risk of becoming delinquent within the next couple of years.
It does not, for example, take into account clear creditworthiness factors, such as income, total assets, or total indebetness.
FICO is goof for what it is, but when viewed for what it isn't, then I agree that it does not adequately measure creditworthiness.
I would rather live in a credit socieity that has a widespread, general, and simple tool for evaluation of risk of repayment that to do without.
Creditors can make cheaper and quiicker decisions by choosing to look only at that one area of consumer risk.
Centralized credit reporting and a simple risk model makes that possible.
Countries that dont have such a developed system suffer subjective credit determinations and horrid interest rates.
+1 to that.
What is really happening is people's misunderstanding of the purpose of credit scores.
Credit score does not really estimate creditworthiness like most people would think. What is represents is credit management habits, regardless of income level. I will give you an example of what credit score predicts and one example of what it does not.
Say A earns 100k a year, and so does another individual named B. Each of them has 2 credit cards and 1 auto loan.
A always pays credit card bills and installment amounts on time. B, however, keeps missing these payments. Why is that?
Most likely, B lives beyond his means, does not take into account his debt obligations in his budget, and runs out of money all the time, making him unable to make timely payments. He has to open new credit cards and loans to pay his older debt. A, on the other hand, is frugal, does not overspend, and has enough money left over every month to make the payments because he plans the debt in his budget. 2 years down the road, the debt B has accumulated is so large that his monthly interests are larger than what he has left over after his other expenses, so he refuses to make payments altogether; he is in default.
Credit score is supposed to predict situations like A's vs B's, regardless of their income: they make the same, but one ends up in default, and the other does not, and this is because B has much better debt management habits.
Now let's say we have 2 other individuals: C and D. Each of them has a credit card with a $20k limit. C makes $30k per year and lives in Manhattan, while D makes $100k and lives in Kansas City. Their credit profiles are identical. C puts most of his expenses one his credit card and makes the minimum payment every month. D puts his expenses on his credit card as well, but always pays off the full balance. In 2 years, C's credit card debt has grown to 10k, at which point C realizes he can never pay off the balance and files for bankruptcy. His credit score is stellar, and yet he is in default.
Credit score is not supposed to predict situations like C's vs D's. They both have excellent credit and exhibit good debt management habits, but one ends up in default and the other does not. This is where other factors such as income, DTI, cost of living, etc. come into play.
When determining whether they should extend credit, a lender looks at the overall financial picture of the borrower including credit score, specific credit profile, income, cost of living, DTI, etc. Credit history is only one factor among many that determine creditworthiness. We need to stop saying that credit score determines creditworthiness. This is plain wrong.
...most lenders use an "overlay" in addition to raw credit scores ...as the credit lines increase, so do the overlays ...this is true of virtually all lenders regardless of the credit product ...in addition to the baseline decision on whether to grant credit or not, there then comes the CL decision and the rate decision ...all based on individual lender overlays
