1. Credit Risk Control at UBS Group January 25, 2006 Presentation to NYU

2. Who we are

UBS is one of the world's leading financial firms. We are

• one of the world's leadingwealth managementbusinesses

• a globalinvestment bankingand securities firm

• a leadingasset manager

• the market leader in Swissretail and commercial banking .

Our first priority is our clients' success.As an integrated firm, UBS creates added value for clients by drawing on the combined resources and expertise of all its businesses. As an organization, UBS combines financial strength with a global culture that embraces change.

3. Gross Credit Exposure by Business Group Global Wealth Management & Business Banking Investment Bank Other TOTAL UBS 4. Impaired loans and loan loss provisions Problem loans are low in the Investment Bank ... and UBS reduced its recovery portfolio in Business Banking 5.

Swiss bankruptcy rates increased dramatically,

real estate prices tumbled

and loan losses surged

Credit Risk Quantificationwhere we came from

The mandate was to upgrade our risk control tools with a view to

• detecting weak customers and ensure proactive "work out" measures

• implementing a risk grading system for the "good portfolio"

• ensuring implementation of risk adjusted pricing across the portfolio

(from a 1997 presentation to the BIS [FSI]) 6.

Set-up of a framework

to estimate the credit losses and introduce a comprehensive rating system for all portfolios

to "allocate" the risk costs including a return on risk adjusted capital to individual transactions

to anchor credit policies to ratings and Expected Loss

What we concentrated on Rapid implementation of behavioral change ...through pragmatic use of modeling techniques 7. What we have achieved Profitable lending activities, ... and very low credit loss expenses New business originated in 4Q99 Rating Real Estate Loans

Margin on new loans

"Fully loaded" target margin

Originated loan volumes

1 2 3 4 5 6 7 8 9 10 11 12 Real Estate Loans Rating Corporate Loans Credit Loss Expenses in CHF million 1997 1998 1999 2000 2001 2002 2003 2004 Q3-05 -1,278 -951 -956 130 - 498 -115 -72 241 243 8. What has changed in the industry

Traditional Model

balance sheet focus

"yes/no" decision

loss avoidance

no portfolio view

"one price for all"

no liquidity

Gut Feel, expert knowledge

Degree of Specialization Degree of Sophistication

Risk Quantification

transaction focus

credit rating

expected loss concept

portfolio analysis

price differentiation

some liquidity

Use of actuarial and

statistical tools :

probability of default

loss severity

exposure at default

default correlation

Active Portfolio Mgmt

portfolio focus

risk/return optimization

credit risk models

profit center of its own

increasing liquidity allowing

for active portfolio mgmt

(buy, sell, hedge)

New organization, possibility of specialization of individual institutions :

origination

servicing

portfolio management

Paradigm shift in credit risk management 9. Credit Risk ControlThe key factors to success Credit Risk Culture "One strategy - one goal" Risk Organization "Checks and balances" Risk Quantification "Transparent risk assessment" Risk Limitation "Focus on risk diversification" 10. Credit Risk Culture Risk policy must be aligned with corporate objectives ... and be adopted "top down" by the Bank's origination and risk management functions 11. Corporate Governance and responsibilities Board of Directors Chairman's Office Group Internal Audit Group Executive Board GEB Risk Sub-Committee Group Chief Risk Officer Market RiskControl Credit Risk Control Wealth Management & Business Banking Global Asset Management Investment Bank Corporate Center Risk Policy Risk Management Independent Risk Control Wealth Management USA Group Chief Credit Officer Group Head Operational Risk OperationalRisk Control Functional Leadership for Credit Risk Control Units within each Business Group 12. Credit risk control at UBS ... is functionally independent from the business line, ... but an integrated partner of the business groups Group Chief Credit Officer CCO WM&BB CCO Global WM&BB CCO Investment Bank CCO Investment Bank Corporate Center Business groups 102 417 321 Risk methods Risk reporting Risk systems Risk review Risk education Credit authority Functional mgmt 13. Business Management and Risk Control Clients / Market Risk Management Risk Control "Separation of power" is key to successful ...optimization of risk and reward Operations Origination Client Management Business Origination Loan Book Management Risk/return Optimization Transaction Execution Loan Disbursement Model Certification Risk Limits and Control 14. Statistical Loss: "Value-at-risk"Credit Risk Market Risk ... Convention of measurement SignificantLoss Events Availability of data

10 days - 99%

Higher losses are expected more than twice per year!

Mainly factor driven

Immediate occurrence

Mostly not a problem

1 year - e.g. 99.98%

Higher losses in out of 5,000 years?

Mean value is not zero!

Often firm-specific

Large time lag, if economy swings

In many segments very difficult

Characteristics of the distribution Market risk and credit risk measures are different 15. Expected Loss Three key variables determine the outcome but their estimation is often difficultPD x LGD x EXP = Expected Loss Terminology: PD = Probability of Default LGD = Loss Severity (given default) EXP (or EAD) = Exposure (at default) 16. Rating methods are key Risk quantification begins with a "correct" stratification of clients by means of high quality rating methods 17. Risk concentrations drive portfolio risk single loan no default default several loans commondefault no default single default theindividualUnexpected Loss ofeach loan = Concentration risk thecommon default behaviourof several loans = Loss Correlation 18. Credit Risk Modeling

All transactions with their attributes are entered

into a simulation model that causes clients to default ...

and produces a distribution of possible portfolio losses 19. Extreme events and stress testing Stress testing and limit setting are based on several analytical methods Loss Frequency Earnings capacity

Scenario analysis

"What, if" portfolio assessment, e.g.

Bankruptcy rates

Asset values

Statistical analysis

"Tail Risk"

Limit settingto avoid undue risk concentrations:

Counterparty

Sector

Country

and to protect earnings

20. Credit exposure hedging 21. Credit risk control measures Credit events have many causes, are difficult to predict ... and can create substantial losses 22. Credit risk mitigation

Credit derivative transactions to reduce economic exposure

Collateralization and netting agreements for OTC derivatives

Risk taking capacity with many clients would be limited, ... if risk mitigation could not be effectively used 23. Active credit portfolio management

Markets for retail portfolios have existed for a very long time: individual names are irrelevant

Rapid growth of sophisticated risk management tools for large corporates: individual names are known

The challenge is for the middle market segment where individual names matter but are not really known

Active portfolio management is not equally available ... for all customer and product classes 24. Contact Information

Philip J. Lofts

Group Chief Credit Officer

Stamford

Tel. 203-719-3320

e-mail: philip.lofts@ubs.com