Pub. 11 2021-2022 Issue 1

O V E R A C E N T U R Y : B U I L D I N G B E T T E R B A N K S — H E L P I N G C O L O R A D A N S R E A L I Z E D R E A M S www.coloradobankers.org 16 BY STEVE SCHICK, PARTNER, AND BRYAN JOHNSON, PRINCIPAL, PLANTE MORAN Making the Right Decisions: The Importance of Model RiskManagement O ver the past several years, financial institutions have embraced the increasing use and reliance on technology. Automated predictive, economic, and financial models have assisted them in making faster and better business decisions. Many institutions are also in the process of developing or implementing credit loss models to address the Financial Accounting Standards Board’s new current expected credit loss (CECL) standard. But how should organizations manage risks? A robust model risk management (MRM) framework is critical. Increasing model use, increasing risks The proliferation of data and the increasing complexity of financial analyses have caused many financial institutions to turn to models to increase performance, reduce mundane and repeatable tasks, and save time and resources. However, the use of models also presents significant risks if a strong MRM framework is not in place to govern usage. The challenge is that few small and medium-sized financial institutions have robust model risk management processes to govern their models. While financial institutions above $10 billion are subject to model risk management regulatory guidance, smaller financial institutions do not have the same obligations — although MRM is encouraged. This has led many to approach model implementation on an ad hoc basis, with functional areas developing models to enhance their specific decision-making processes. The issue with this provisional approach is that it opens an organization to a wide range of risks, including those associated with input accuracy, data completeness and alignment of bank-specific assumptions and strategic goals. Making model risk management a priority Smaller institutions might not be subject to the same regulations as their larger counterparts, but they should not ignore such requirements altogether as they may be subject to such MRM requirements in the future. Additionally, if they are going to spend the time and resources developing and implementing models, financial institutions should make sure those models work as intended. The last thing any financial institution wants to do is rely on inaccurate models for making critical business decisions. Where to start? Financial institutions using predictive, financial, or economic models should consider enhancing their approach to MRM. As a starting point, this could include undertaking the following key activities: • Create an inventory of existing models — It is essential to generate a list of any current or in- development models. Be clear about the difference between a model and a tool so all stakeholders understand how to use and contribute to the inventory. In connection with documenting the