FICO’s new Resilience Index

Steve Merrell |

Living in a big data world can be a little creepy. No matter where you go and what you do, it seems like someone is watching and tabulating and scoring. It’s a lot like that old song by The Police: “Every breath you take and every move you make…I’ll be watching you.” It can be a little unnerving when you think about it.

One of the watchers keeping tabs on you is a company called FICO. Started by a couple of Stanford Research Institute gurus in 1956, FICO (previously known as Fair Isaac Corporation), is one of the original big data companies. Their ubiquitous FICO scores are used to measure consumer credit worthiness, but their scoring and analytics are used in a number of other industries, including healthcare, transportation, insurance, and government.

FICO recently came up with a new way to help lenders better distinguish the relative credit worthiness of different borrowers even if they have the same credit score. On June 29, they launched something called the FICO Resilience Index. While traditional FICO scores help lenders assess a borrower’s credit position at a particular point in time, the Resilience Index helps lenders understand how a borrower’s credit will change during an economic downturn.

Traditional FICO scores ranged from 300 to 850 where a higher score is better. The FICO Resilience Index is measured on a scale between 1 and 99 with lower numbers indicating higher resilience. A score of 1-44 indicates a “More Resilient” household, while a score over 70 indicates a “Very Sensitive” household.

FICO developed the Resilience Index after their researchers noticed that some borrowers during the 2008 financial crisis—even those with fairly low credit scores—continued to pay their obligations, while others with the same or better scores did not. Their research led them to identify several factors that help predict a consumer’s financial resilience. They concluded that higher resilience was associated with fewer credit inquiries in the past year, fewer active accounts, lower total revolving balances, and more experience managing different types of credit. In other words, people who had an established history of using credit responsibly scored better on the resilience index. Doesn’t sound like rocket science to me.

The Resilience Index is not meant to be used by itself. It is a complement to the traditional FICO score and should help banks, credit card companies and other lenders differentiate between borrowers of a particular score. For example, in past economic slowdowns, banks would pull back on all lending to borrowers below a certain credit score. Using the new Resilience Index, it is hoped that banks will keep making credit available to borrowers with a low credit score but strong resilience index.

The new FICO Resilience Index will probably not be a primary focus of many lenders, at least not immediately. It takes time for these kinds of changes to work their way into the credit decision making process. However, you would do well to look carefully at your FICO score. If it is below 740 (the low end of the “very good” tier), you should start looking for ways to improve your score. The steps you take to improve your FICO score will also help improve your Resilience Index.

First, pay attention to the number of hard inquiries you generate on your credit report. Hard inquiries are created by credit inquiries tied to an actual credit application. According to FICO, a hard inquiry will reduce your score by 5-10 points. Too many hard inquiries may be a red flag to credit agencies warning of an impending change in your credit worthiness.

Second, make your payments on time, including utility payments. Late payments can knock as much as 100 points off your credit score. Note that Federal law requires that a payment be at least 30 days late before a lender can report you to one of the three major credit bureaus.

Finally, pay off debt and keep your balances low on credit cards and revolving accounts, but don’t close the accounts. Keeping the paid-down accounts open will reduce your credit utilization ratio which, in turn, will improve your credit profile.

 

 

Steven C. Merrell  MBA, CFP®, AIF® is a Partner at Monterey Private Wealth, Inc., an independent wealth management firm in Monterey.   He welcomes questions you may have concerning investments, taxes, retirement, or estate planning.  Send your questions to: Steve Merrell, 2340 Garden Road Suite 202, Monterey, CA  93940 or email them to smerrell@montereypw.com.