Your CECL Implementation
Questions Answered

CECL data requirements present a significant hurdle for financial institutions. The days of disparate data silos, spreadsheets, and paper files are over. To satisfy CECL standards—and harness the business potential it provides—you’ll need a sophisticated, configurable solution.

Start with a comprehensive data assessment

Before you map your solution, you need a holistic view of your current data environment. Depending on your institutional needs, you may already have significant amounts of historical loan data, but it might be housed in a wide variety of formats that cannot be leveraged to calculate your expected credit loss.

Baker Hill^® can help you capture that data and provide expert advisory services to help you leverage your data into a strategic advantage. Here’s how:

• Collect
  Engage key stakeholders throughout your organization to identify your available data and consider how it can be incorporated into your CECL strategy.
• Assess
  Identify any gaps in your loan level data or areas where you haven’t consistently collected information. Check for accuracy and reliability.
• Standardize
  Create organizational standards for how you’ll capture data and categorize loan-level data.
• Integrate
  Decide how you’ll store data going forward. Your CECL solution should reflect your unique organizational makeup and integrate with your existing tools.

Map loan pool segmentations to CECL data requirements

Banks and credit unions often wonder if they can use their current loan pools to satisfy CECL. While in some cases institutions already use highly granular classification, the vast majority should re-examine loan pools to get the most out of CECL data requirements.

Additionally, you’ll want to make sure that your pooling helps you minimize the loss provision expense by accurately segmenting your loan portfolio to the right level of risk. You need a solution that gives you the flexibility to create and manage your loan pools and the corresponding loss methodologies you apply.

• Narrow scope
  Don’t simply sort by loan type and duration. Begin to pool loans by similar risk characteristics. Categorize loans that have been similarly impacted by various economic drivers—looking across economic cycles and examining a variety of scenarios.
• Consider patterns
  CECL data requirements ask institutions to correlate historical data and macroeconomic factors to find out where portfolios are most sensitive.
• Preserve objectivity
  Establish a qualitative scoring matrix to ensure that you’re being consistent and objective with the way you sort and categorize data about loan behavior. Using automated risk ratings and configurable CECL scorecards, Baker Hill NextGen gives you the strategic focus to maintain objectivity as you determine credit risk loss.
• Document rationale
  Regardless of how you choose to segment your loan pools, be sure to document your reasoning—and be prepared to revise your breakdowns as you test your models.

Don’t settle for compliance. Use CECL data requirements to enhance your success.

Continuously monitor your loan data

Once you’ve captured all of your loan level data to calculate your credit risk loss, take your efforts one step further with sophisticated portfolio monitoring. You need a CECL solution that constantly looks for credit trends and loan activity at the pool level and makes sure that no surprises impact your loss provision.

• 24-7 monitoring
  Risk never sleeps and neither should your CECL solution. By continuously monitoring all aspects of your loan portfolio, you can adjust and enhance your CECL approach with a greater understanding of key risks and their potential impact.
• Credit trends and patterns
  Disciplined review of the credit trends and activity patterns of your loans or loan pools gives you the insight you need to manage risk and minimize loss.

FASB allows wide latitude for financial institutions to choose the CECL methodologies that make the most sense for their unique portfolios. To get the most from your CECL solution , you’ll need to go beyond your existing Allowance for Loan and Lead Losses (ALLL) frameworks and pick the right loss methodologies to apply to your loan pools.

Which CECL loss methodologies make sense for your portfolio?

When it comes to selecting CECL loss methodologies and applying them to your loan pools, one size doesn’t fit all. You need more nuanced analysis to meet CECL requirements and to take steps to minimize your loss provision expense and maximize profitability.

• Consider analytics
  Can your software support business intelligence and accurate analysis through automation, or will you need to factor in manual processes? With Baker Hill NextGen® CECL, you have the ability to leverage outside analytics, internal risk ratings, and automated scorecards to identify the risk in each loan and/or loan pool.
• Supplement data
  Different CECL methodologies require varied types, amounts, and granularity of historical data, but you can initially supplement with general industry information. Evaluate potential CECL models based on your information gap analysis.
• Leverage loan level data
  With Baker Hill NextGen CECL, you can supplement your internal CECL data with financial statement spreading data to enrich your credit quality indicators to identify risk earlier and at a specific customer level. Additionally, with Baker Hill NextGen’s holistic view of loan level data and all associated credit scores or other data, you can be confident that you have the most complete picture of risk at any time. 
• Assess skills
  Some CECL methodologies require specialized techniques. Evaluate your CECL model in light of your current staff skill sets. Baker Hill’s Advisory Services can fill in any talent gaps and give you a unique perspective on your CECL questions.
• Stay agile
  Periodically reassess your CECL methodologies in light of changing circumstances. Most institutions apply multiple CECL methods, and those selections may warrant changes over time as factors vary.

Which CECL methodologies match your needs?

While FASB guidance includes several CECL methodologies, organizations can select the right credit risk indicators to meet the actual goal of their CECL implementation—more accurately predicting and managing risk.

• Cumulative loss rate
  Perhaps the most direct of all the CECL methodologies, this method requires less data collection up front, but more qualitative analysis.
• Vintage rate 
  Already in use for many retail credit card and mortgage portfolios, this method tracks how loans perform by given loan origination periods, and how they are impacted by historical economic performance indicators.
• Migration rate 
  This method requires more data granularity. You’ll need to be able to track loan behavior through different classifications and detailed scenarios.
• Probability of default (PD)
  Similar to migration analysis, this method calculates the likelihood of loans experiencing default events given historical trends.
• Probability of default/loss-given default (PD/LGD)
  This method flexibly explains gaps between expected and unexpected losses, making it effective for volatile or unpredictable loan pools.  

Choosing a CECL model makes financial institutions nervous, but you don’t have to go it alone. Working with experienced partners and allowing adequate time for establishing loan pools and evaluating methodologies can remove the stress from this critical aspect of CECL implementation.

When preparing for CECL implementation, leave adequate time for validation. Gradually implementing new processes for data collection, analysis, and CECL risk assessment is more cost effective—and far less stressful—than a last-minute rush to the deadline. 

As you consolidate data, fill gaps, select loss methodologies, and build new systems, you’ll need to test and refine your selections for accuracy, efficiency, and effectiveness.

How can you make sure you’re on track with CECL?

• Catch gaps
  Build in time to test each scenario and methodology so you can find any gaps in your data or processes and allow plenty of time for necessary changes. With Baker Hill NextGen CECL, you can validate and adjust as required for all of your CECL needs.
• Prioritize sustainability
  Design your CECL risk management system to be repeatable, consistent, reasonable, and supportable given your unique organizational constraints. With Baker Hill NextGen, you can leverage automation to make the solution quick, powerful, and responsive to your needs.
• Adjust factors
  As you build out your CECL strategy, you’ll need to adjust both quantitative and qualitative factors to fit your unique situation and portfolio segments. Thoughtful and careful analysis of historical factors and institutional realities can help you determine which factors to include and exclude from your analysis—and may help you make better decisions about which CECL methodologies to apply to different loan pools.
• Test impact 
  Select metrics that apply to each unique loan pool so that you can measure the impact of various factors and methodologies on profitability. Impact analysis may vary considerably between types and pools of loans within your institution’s portfolio.
• Stay objective
  Because CECL risk management emphasizes qualitative data, organizations must implement policies and procedures to support objectivity. Even a simple qualitative scoring matrix with a broad and limited list of scores can make decisions more consistent over time. Automated scorecards and risk ratings within Baker Hill NextGen CECL give you the focused view of your loan pools that you need to maximize profitability.
• Keep improving 
  As you test and refine your CECL risk management procedures, document your decisions and reasoning so you can draw on that knowledge base for audits, and to keep improving your accuracy and effectiveness.

Building in time for assessment and validation not only minimizes risk, but also maximizes your chances for successful CECL implementation.

As you drive toward CECL readiness, prepare to have your methodologies and assumptions tested by external auditors. CECL governance requires a higher volume of documentation due to the expansion of data and addition of detail throughout the risk assessment process.

Baker Hill NextGen CECL gives you data and tools to validate and document your CECL strategy.

How can CECL governance improve your institution?

As with other aspects of CECL implementation, the reporting component allows for flexibility to support unique circumstances among financial institutions. Because the standards are based on a principle of more robust loan analysis, banks and credit unions can gain insights to help management make more profitable and informed decisions. 

• Insights where and when you need them
  Baker Hill NextGen’s responsive design gives executives the ability to view detailed reports and dashboards wherever and whenever they are needed. With customizable views, you have insights into what matters most for your institution. 
• Explain choices
  Describe your decisions regarding loan segmentation, methodology selection, and choice of factors to include and exclude from your risk analysis.
• Document testing
  As you refine your choices, be sure to document outcomes that drive changes so you can demonstrate objectivity and directional consistency.
• Discuss variance
  If projected risk fails to match actual outcomes, be prepared to explain the gaps and what steps you’ll take to mitigate future risk.

Effective CECL governance prepares your institution for external audits, and also positions you for better decision making—leading to growth and profitability over time.