CECL Blog Series – Part #7

This blog was authored by my colleague, Jon Markfort, a Principal in our financial institutions practice in Minneapolis, Minnesota.

Welcome back to the CLA CECL Blog Series. As a reminder, over the past few months, CLA has taken a deep dive into many of the hot topics surrounding the Current Expected Credit Loss (CECL) standard. In this blog, we’ll discuss validating your CECL model. In the event you were not able to attend our webinar on October 28, 2021, you can view the recording of the webinar here. Make sure you receive our invitations by signing up for CLA communications here. We hope you find great value in this blog series and welcome the interaction with any of the authors.

CECL Model Validation

Congratulations! At this point, you have either successfully implemented CECL or are working towards implementation based on your respective effective dates.

So, what’s next? Whether you are running an in-house developed model or have partnered with a third-party provider, there will be on-going Model Risk Management aspects to take into consideration. Typically, institutions will want to validate their CECL model once it is up and running – preferably even before CECL is implemented so tweaks and changes can be implemented prior to the big CECL implementation day. As discussed in the Final Interagency Policy Statement on Allowances for Credit Losses, model validation is an essential element to a properly functioning process. Validations will ensure that the models are performing as expected as well as meeting the objectives of the users.

There are 3 Key aspects of the validation:

• Input;
• Processing; and
• Reporting

Model Validation should be completed by an individual or firm independent from the design, implementation, operations, and ownership of the model. This process will evaluate the model design and theory, assumptions used, validation of data, as well as gaining an understanding of management’s knowledge of the model functions and output.

CECL model validation should also include the assessment of ongoing monitoring, process verification, benchmarking, outcomes analysis, and back testing.

A Unique Approach

CLA’s team members dedicate their careers to specializing in the financial institutions industry, focusing on the needs of Banks and Credit Unions. In addition, with CLA’s expansive client base, we can bring industry best practices and examples to your institution. In addition, CLA has created a dedicated team to perform these validations, with the proper tools for success. You’ll benefit from our experienced industry professionals who evaluate every aspect of your institution’s CECL Model function including the following:

• Policies and Procedures – reviewed for compliance with calculation and applicable regulatory requirements
• Governance Oversight – determining the proper level of governance participation and review
• Assumptions used – reviewed for consistency with policy, applicability to the institution and proper documentation of considerations
  • Forecast Period
  • Portfolio Segmentation
  • Historical Loss Calculations used
  • Loan Data Integrity
  • Qualitative / Forecast Adjustments       
• User Access Review
• Model Benchmarking   
• Back testing

How can we help?

Regardless of where your institution is at on your CECL journey, CLA is prepared to assist your institution in any way we can. Throughout this blog series or at any time, contact us with your questions. We look forward to being a resource for your institution as you navigate the implementation process!