By Guglielmo Migliori, Senior Research Executive, CeFPro.
Reviewing the pressures of the stress testing and model risk professional: Regulatory disparities, incorporating IFRS 9, ensuring relevance and the role of new technology
2018 is seeing increased pressures for stress testing and model risk professionals with the additional pressures of European stress tests, doubling efforts across teams and departments. Stress testing and scenarios are increasingly evolving in depth and focus given the political and financial uncertainty across Europe and America, new scenarios are being considered as standard practice as uncertainty builds.
Given the pressures across departments and the increased utilisation of teams to adhere to the volume of requirements, the Center for Financial Professionals have conducted extensive research with a diverse range of industry experts across Europe to better understand the industry trends and turmoil. The below is an outline as to some of the key areas of focus across the industry, all of which and much more will be addressed by leading experts at the upcoming 6thAnnual Stress Testing Europe Summit, taking place in London on 13-14 November.
As is the case across a wide spectrum of topics, regulation was a key concern for many experts across the industry, not just on the requirements of their host regulator but more globally focusing on the disparities across regulators. Stress testing is a resource intensive exercise bringing together a range of teams and increasing workload, this is further intensified when considering the range of requirements institutions with a global footprint are subject to. It is increasingly challenging to have a unified approach globally given the range of requirements put to institutions, industry professionals are not only focused on internal requirements but also across entities to comply with all requirements. Given the disparities, outcomes can differ across entities, meaning the challenge is not just complying with regulations but reconciling results for a global view of the institution and its resulting capital requirements. Institutions are up against increased cost and value restraints, not only are they increasingly expected to do more with less, they are expected to balance cost and time with efficiency to ensure effective execution with limited cost. The industry is seeing an increased pressure on value proposition, with institutions pressing for a return on stress testing investments many are adapting their approach to ensure both compliance and value internally.
One of the key trends and concerns produced from the research was the incorporation of IFRS 9 into stress testing requirements. Many mentioned the organisational and computational challenges of incorporating IFRS 9 into projections and the subsequent impact this could have on results and final numbers. A director at a large European bank said:
“The impact of IFRS9 on retail and wholesale credit stress testing, because that is a brand-new accounting treatment and we’ve had to build new models and processes – we need to be careful about how we have to cover numbers we’ve never seen before and obviously there is no benchmark from previous years.”
IFRS 9 fundamentally changed the industry and we are yet to see the impact on numbers and capital requirements and how forward forecasting can change positions. With IFRS 9 now live, many are struggling with initial teething problems and understanding how to articulate changes to stakeholders and markets. The focus now shifts to how IFRS 9 may impact stress testing and how to align the forward casting element of each. Given that there is very little historical data to support IFRS 9 in a stress scenario, many are unsure as to how to incorporate the two, and align processes to minimise disruption with already limited resources and timing constraints.
Another key focus was ensuring relevance of stress testing, closely aligned to the value proposition mentioned above, many are looking to how they can tailor to be relevant for their institutions. Oftentimes institutions see stress testing as a tick box exercise to satisfy their regulatory obligations, however increasingly the industry are leveraging the results and tailoring practice to get the most out of the exercise. Institutions are incorporating internal stress testing to ensure the scenarios generated remain relevant and practical to their institutions.
Finally, as is the case across the industry, stress testing professionals continue to explore how technology can increase efficiency and automate the process. For example, adapting and utilising technology for behavioural analytics and increasing efficiency could change the process entirely and allow for more resources to drive results and relevance to institutions. The use of technology is evolving rapidly, with many uses being put into practice across this industry, stress testing remains slow on the uptake of technology uses, with questions remaining around governance and oversight of technology. Artificial intelligence and machine learning potentially reduce time to action during a stress period and streamline model risk processes, but are institutions ready to entrust this to machines, and how do they ensure oversight and governance to reduce technology risks and errors? Technology can assist with incorporating stress testing into BAU and reduce bottlenecks when scenarios are released from regulators.
The Center for Financial Professionals will assess the alignment between stress testing and business needs, to increase efficiency across institutions, at this year’s Stress Testing Europe Summit taking place on 13-14 November in London. Join a range of leading industry experts as they deliver insight on the above any many more key focus areas.
For more information visit www.stress-testing-europe.com or call us on +44 (0) 207 164 6582