Effect Of Credit Risk Management On Financial Performance Of Commercial Banks Listed At The Nairobi Securities Exchange, Kenya

ABSTRACT

One of the major roles that banks in the Kenyan economy play is credit creation. Credit creation comes with risks and credit risk is the most critical risk. Credit risk needs to be management prudently as it impacts negatively on performance. It is thus important to study how various banks manage credit risk for effective policy. This main study sought to find the effect of credit risk management on the performance of commercial banks listed at the Nairobi Securities exchange in Kenya. The specific objectives were to find the effects of capital adequacy ratio, loss given default ratio, loan loss provision ratio and non-performing loans ratio on the performance of the banks. The independent variables of the study were capital adequacy ratio, loss given default ratio, loan loss provision ratio and non-performing loans ratio while dependent variable was the abnormal stock return. Relevant theoretical and empirical literature was reviewed and gaps identified to inform the study. The population of the study was the forty four licensed commercial banks in Kenya as at December 2014, as per the latest data available by the time the study was being conducted. A purposive sample of ten banks was selected based on the criteria that they were listed and had complete data for the period under study. Secondary data for the construction of the variables under study was collected from the financial statements and the Nairobi security exchange was collected the sample period. Data was diagnosed for and treated, where necessary, of the problems of panel regression. Using a longitudinal study design and a random effects model specification a panel Estimate Generalized Least Squares regression was done on the data using eviews software. Adopting a 5% non-directional test of hypothesis, the study found a statistically no significant relationship between capital adequacy ratio and bank stock performance in Kenya, a statistically no significant relationship between loss given default ratio and bank stock performance in Kenya, a statistically no significant relationship between loan loss provision ratio and bank stock performance in Kenya and a statistically significant negative relationship between non-performing loan ratio and bank stock performance in Kenya. The study concluded that, at 5% significance level,capital adequacy ratio,loss given default ratio and loan loss provision ratiohad statistically no significant effect on bank stock performance while non-performing loans ratiohada negative and statistically effect on bank stock performance in Kenya for the period under study.The study recommended that given the current supervisory and regulatory policy frameworks for banks, credit risk managers should be less concerned with adjustments in the ratios of capital adequacy ratio, loss given default ratio and loan loss provision ratio as the values of these ratios have no significant effects on performance but should instead be more prudent on the management of the non-performing loans ratio as it has a significant effect on performance, that the current regulatory policy requirements on capital adequacy ratios, loss given default ratios and loan loss provisions ratios should be maintained and that future studies in this area be carried out for longer study periods and more independent variables, in order to bring out the true picture of the effect of the independent variables on the dependent variables of the study.