Friday, January 25, 2008

New "predictive tools" from Fair Issac

An interesting piece in the Star Tribune: Fair Isaac hopes its new tools lessen lenders' risk of defaults was sent to me by former student Erik Anderson. Fair Issac is apparently updating their method for computing FICO scores for 2008. According to the article "in the next few weeks [Fair Issac] will roll out a suite of tools designed to predict future default risk". The emphasis is on predicting. In other words, given a database of past credit reports, a model is developed for predicting default risk.

I would be surprised if this is a new methodology. Trying to decipher what really is new is very hard. Erik pointed out the following paragraph (note the huge reported improvement):

"The new tools include revamping the old credit-scoring formula so that it penalizes consumers with a high debt load more than the earlier version. The update, dubbed FICO 08, should increase predictive strength by 5 to 15 percent, according to Fair Isaac's vice president of scoring, Tom Quinn."

So what is new for the 2008 predictor? The inclusion of a new debt load variable? a different binning of debt into categories? a different way for incorporating debt into the model? a new model altogether? Or maybe, simply the model based on the most recent data now includes a parameter estimate that is much higher for debt load than models based on earlier data.

1 comment:

Lauren said...

This article struck my eye, especially the text within the original source which read: "The new tools include revamping the old credit-scoring formula so that it penalizes consumers with a high debt load more than the earlier version." I was curious as to how the new weighting was actually determined, and how accurate of a predictor this would be.

Further, regarding the use of debt load - I wonder if companies are discriminating between types of debt; I fear that they are not. I'll share a recent experience with my credit card company to illustrate my concern:

I am relocating for my new job. I have a fantastic relocation package, but there are still some expenses that I'll have to personally incur, and then be reimbursed for later. No big deal right? I called my credit card company to see if I could raise my credit limit, so I could throw all the related expenses on one card. They wouldn't. I have a strong credit rating...but oh wait, the customer service rep said to me. It appears you have a large amount of student loans. Asking whether the company distinguished between types of debt rendered an answer of "no".

I would intuitively think that those that invest in their future would be less apt to be fiscally irresponsible, but student loan debt isn't distinguished from any other types of debt. I wonder if lenders were to make a distinction between types, if that were to alter their models...a daunting research project for next semester's students, perhaps?