Risk Management & Analytics: CECL Model Validation: Data and Documentation to Play an Important Role

CECL Model Validation: Data and Documentation to Play an Important Role

While financial institutions are still in the early phases of current expected credit losses (CECL) planning, implementation and monitoring, others have already selected and simulated their model or model software and are ready for the next phase of the process: model validation.

Since CECL requires significantly more data, including historic, current and forecast assumptions, as well as more sophisticated analysis, validating a CECL model will likely require additional considerations beyond the current expected approach. We highlight a few reasons why internal and third-party model validators will place more focus on data and documentation.

Data Reliability: The importance of data is paramount and its quality is at the cornerstone of CECL. Data plays a significant role in the methodology you choose, the accuracy of your estimate, and the impact of the other integrated loss reserve analyses. When validating data reliability, an analyst or third-party model validation partner will need to consider the quality and completeness of data over the life of the loan, how data is stored, managed and scrubbed, and the quality and relevance of the forecast inputs and assumptions used in a model.

Governance and Documentation: While FASB did not prescribe a specific methodology, the standard states that the methodology must be “reasonable and supportable,” which means that modeling methodologies and processes should be well-documented. Thorough model governance and documentation will ensure that your organization can track changes to the models and model processes, and will give auditors and regulators confidence in your approach. Documentation should extend beyond methodology to include model processes, model use, model maintenance, data and assumption selection, and portfolio segmentation processes. Since these model outcomes and process integrate with other models and inform quarterly accounting reports, it is important to ensure this information is accurate and can be relied upon for both business and regulatory reasons.

In future articles, we will focus on other key aspects of CECL model validation, including model testing/outcomes analysis, conceptual model, model use, and reporting.


Federal Reserve’s Escape from Crisis Holdings Could Hit Dead End

Not long ago the Federal Reserve expected to quietly shed nearly half of its $4.5-trillion portfolio by around 2022, leaving little trace of the extraordinary steps it took to face down the financial crisis. But an unexpected market kink could force the Federal Reserve to scrap the plan two or three years early and permanently leave it holding $1 trillion more than it wanted.

The U.S. central bank is making adjustments on the fly and keeping its options open. “I don’t think that’s problematic in any way” to halt the process “somewhat earlier,” William Dudley, the former New York Federal Reserve president and key architect of the portfolio strategy, told reporters last month.

Yet if the world’s largest holder of U.S. bonds tossed out its play book and effectively took on a more accommodative stance, the result could be an across-the-board easing of market borrowing costs, the foreign-exchange value of the dollar, and of the growing strains on emerging markets.

Read more: Reuters


Wall Street Competes With Unregulated Banks for the Riskiest Loans

Wall Street’s junk war is heating up.

On one side are major banks, which are diving back into high-risk corporate lending now that U.S. regulators have loosened up.

On the other are so-called shadow lenders — private equity shops, boutique banks and other financial players that muscled in on this business when regulators restrained the big banks five years ago.

The result: ever-growing competition to provide junk-rated debt used in corporate takeovers. It could turn out to be a “race to the bottom,” said Frank Ossino, a senior portfolio manager at Newfleet Asset Management in Hartford, Connecticut.

Read more: Bloomberg


Banks are Not Tech Companies, but They Are Full of Risk

Aftershocks from the infamous TSB migration to a new IT system in late April, which was so badly bungled as to become a defining case study for generations of bank operations and technology staff to come, were still rumbling in June. Paul Pester, chief executive of TSB, appeared once more in front of the Treasury select committee of the House of Commons to apologize and provide more details.

What started with many customers being unable to access their own accounts – although some were granted surprise access to other peoples’ – has given way to 70 times higher-than-ever fraud attempts. By early June, 1,300 customers had had money stolen from their accounts. Some others who tried to leave the bank and switch standing orders for regular bills to new accounts with other banks have discovered that TSB was telling their utility providers that these customers had died.

TSB had received over 100,000 complaints by mid June. The Treasury select committee is concentrating on how it has handled these, while leaving the dreary technical details of what went wrong to IBM.

Read more: Euromoney


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