What to Look for in a Current Expected Credit Loss (CECL) Partner
Financial institutions can partner with consulting firms to get ahead of the new CECL standard. A comprehensive CECL solution requires expertise from a wide range of disciplines, including data management, econometric and credit risk modeling, accounting, and model risk governance.
Different financial institutions will need more outside resources in some of these areas than others. The ideal one-stop CECL partner, therefore, will have a breadth and depth of expertise such that your financial institution can trust substantial CECL-related work to them, but enough modularity in their offering so that you only pay for the services you need.
A final consideration is whether a firm can provide the level of customization in CECL modeling that fits your circumstances, from an off-the-shelf model to a custom build.
While the CECL standard is new, the data management and modeling skills it requires are not, nor is the principle of aligning model assumptions across departments or the need to satisfy the demands of auditors and regulators. Consultants and industry veterans who are experienced at helping financial institutions solve such problems can help prepare you for CECL.
For as sweeping a change as CECL is, it is important to partner with a firm with accounting and regulatory expertise that understands the standard and its implications. Besides a strong understanding of CECL and its specific requirements, CECL demands expertise in the following specific areas:
Data Management. Data management will be at the forefront of tackling the transition from an “incurred loss” approach to an “expected lifetime loss” approach. Institutions will need to store extensive data in a controlled environment which will be subject to heightened scrutiny due to its impact on financial reporting.
The process of gathering, consolidating, and organizing data from disparate systems can prove painful for most organizations. Financial institutions that need to build or enhance their database to support CECL estimates should seek a partner with data hosting platforms or data management experts who can deploy to the client site.
Modeling & Analytics. Models that translate raw data into value-added, decision-useful information can set leading entities apart from their peers both in terms of performance and in the eyes of regulators. CECL will require major upgrades and extensions to existing models or, in many cases, new models. A CECL model must forecast life-of-loan cash flows, considering both the credit characteristics of the loan portfolio and short-term and long-term economic forecasts. A vendor with credit and econometric modeling expertise can provide the necessary modeling help.
CECL also marks an opportunity for firms of all sizes to address shortcomings in their analytic capabilities. Methods for analyzing big data, surveillance capabilities, and decision support visualization tools have improved dramatically and should now be viewed as “must-haves” for organizations interested in differentiating themselves from their competition. The ideal CECL partner will have analytics expertise along these lines.
Risk & Controls Advisory. Meeting the CECL standard will involve operational changes. Models, assumptions, and data sets supporting CECL will be subject to a high level of scrutiny due to their impacts on financial reporting. A consulting firm with accounting expertise can aid in the interpretation of the new standard and in understanding requisite process changes. Additionally, documentation will be a critical component to a company’s transition to the new standard. Being able to support new methodologies with thorough documentation will be central to avoiding regulatory turbulence.
As noted previously, different financial institutions will need help with different aspects of CECL preparedness. The ideal consulting partner will have a flexible solution and service offering that can be targeted to meet the institution’s need. In some cases it may be appropriate for an outside consulting firm to lead a specific activity, and in other cases to augment and complement full-time staff.
Appropriate Level of Customization
Do you need a credit model custom-built from your internal data, or will an off-the-shelf model do the job? A good CECL partner can help you think through these questions and provide a model with the appropriate level of customization.
CECL is a significant change from industry practice to-date, and an issue that will alter the existing methods deployed by financial institutions in their management of potential loan loss. If you would like advice on preparing your organization for ultimate conversion to this new framework for loan loss estimation, please feel free to reach out to RiskSpan.
About The Authors
William Vahey is a Senior Managing Director with RiskSpan, and leads advisory engagements for the firm at multiple financial services organizations throughout the country.
David Andrukonis validates forecasting, asset/liability, and credit risk models for bank clients and performs valuations of asset-based securities at RiskSpan.