Development and application of consumer credit scoring models using profit-based classification measures

This paper presents a new approach for consumer credit scoring, by tailoring a profit-based classification performance measure to credit risk modeling. This performance measure takes into account the expected profits and losses of credit granting and thereby better aligns the model developers’ objectives with those of the lending company. It is based on the Expected Maximum Profit (EMP) measure and is used to find a trade-off between the expected losses – driven by the exposure of the loan and the loss given default – and the operational income given by the loan. Additionally, one of the major advantages of using the proposed measure is that it permits to calculate the optimal cutoff value, which is necessary for model implementation. To test the proposed approach, we use a dataset of loans granted by a government institution, and benchmarked the accuracy and monetary gain of using EMP, accuracy, and the area under the ROC curve as measures for selecting model parameters, and for determining the respective cutoff values. The results show that our proposed profit-based classification measure outperforms the alternative approaches in terms of both accuracy and monetary value in the test set, and that it facilitates model deployment.