As we ring in the New Year, companies are gearing up and looking at several key areas of focus when it comes to effective model risk management in 2012.
We all know that banks’ expanding use of data-driven, quantitative analysis and financial models in most aspects of their financial decision making has escalated the need to manage ‘model risk’ like any other type of risk. In recent years, as banks have tried and applied financial models to more complex products, we’ve seen that the models themselves can impose risk if they are incorrect, misapplied or misused.
Last year, in response to this new type of risk, and the financial losses associated with it, the Federal Reserve Board (FRB) and Office of the Comptroller of the Currency (OCC) issued the joint Supervisory Guidance on Model Risk Management (OCC Bulletin 2011-12) dated April 4, 2011. According to the OCC, “Model validation remains at the core of the new guidance, but the broader scope of model risk management encompasses model development, implementation, and use, as well as governance and controls related to models.”
Below are the top 10 questions that companies should be asking themselves as they prepare for managing their model risk in the New Year:
- How would you rank Model Risk as a business risk to your financial institution?
- Do you have a Model Risk Management Program in place?
- How often do you assess the data quality and relevance of your models, including tracking and analyzing adjustments to data, assumptions and information and expert judgment?
- How effective are these data quality controls being run within your organization?
- How effective are the Model Risk Controls being run by model developers, model owners and model users within your organization?
- How would you describe your organization’s documentation process?
- What are some of the controls your organization uses to mitigate Model Risk?
- What technologies/software do you use to support your Model Risk Program?
- Does your organization anticipate the need to add more pricing models in the near future?
- What plans do you have in place to enhance your Model Risk Management policies and practices?
Certainly, all of these questions provide food for thought when it comes to managing your model risk in 2012. If you have further questions, or would like more information about model risk management solutions, please contact [email protected].