SR 11-7 SUPERVISORY GUIDANCE ON MODEL RISK MANAGEMENT
SR Letter 11-7
Attachment
Board of Governors of the Federal Reserve System
Office of the Comptroller of the Currency
April 4, 2011
SUPERVISORY GUIDANCE ON
MODEL RISK MANAGEMENT
CONTENTS
I.
Introduction, page II. Purpose and
Scope,
page
III. Overview of Model Risk
Management,
page
IV. Model Development, Implementation, and
Use,
page
V. Model
Validation,
page
VI. Governance, Policies, and
Controls,
page
VII.
Conclusion, page 1
2
3
5
9
16
21
I. INTRODUCTION
Banks rely heavily on quantitative analysis and models in most aspects of financial decision making.[Fo tn1oe They routinely use models for a broad range of activities, including underwriting credits; valuing exposures, instruments, and positions; measuring risk; managing and safeguarding client assets; determining capital and reserve adequacy; and many other activities. In recent years, banks have applied models to more complex products and with more ambitious scope, such as enterprise-wide risk measurement, while the markets in which they are used have also broadened and changed. Changes in regulation have spurred some of the recent developments, particularly the U.S. regulatory capital rules for market, credit, and operational risk based on the framework developed by the Basel Committee on Banking Supervision. Even apart from these regulatory considerations, however, banks have been increasing the use of data-driven, quantitative decision-making tools for a number of years.
The expanding use of models in all aspects of banking reflects the extent to which models can improve business decisions, but models also come with costs. There is the direct cost of devoting resources to develop and implement models properly. There are also the potential indirect costs of relying on models, such as the possible adverse consequences
(including financial loss) of decisions based on models that are incorrect or misused.
Those consequences should be addressed by active management of model risk.[PageBreak]
- Unless otherwise
Attachment
Board of Governors of the Federal Reserve System
Office of the Comptroller of the Currency
April 4, 2011
SUPERVISORY GUIDANCE ON
MODEL RISK MANAGEMENT
CONTENTS
I.
Introduction, page II. Purpose and
Scope,
page
III. Overview of Model Risk
Management,
page
IV. Model Development, Implementation, and
Use,
page
V. Model
Validation,
page
VI. Governance, Policies, and
Controls,
page
VII.
Conclusion, page 1
2
3
5
9
16
21
I. INTRODUCTION
Banks rely heavily on quantitative analysis and models in most aspects of financial decision making.[Fo tn1oe They routinely use models for a broad range of activities, including underwriting credits; valuing exposures, instruments, and positions; measuring risk; managing and safeguarding client assets; determining capital and reserve adequacy; and many other activities. In recent years, banks have applied models to more complex products and with more ambitious scope, such as enterprise-wide risk measurement, while the markets in which they are used have also broadened and changed. Changes in regulation have spurred some of the recent developments, particularly the U.S. regulatory capital rules for market, credit, and operational risk based on the framework developed by the Basel Committee on Banking Supervision. Even apart from these regulatory considerations, however, banks have been increasing the use of data-driven, quantitative decision-making tools for a number of years.
The expanding use of models in all aspects of banking reflects the extent to which models can improve business decisions, but models also come with costs. There is the direct cost of devoting resources to develop and implement models properly. There are also the potential indirect costs of relying on models, such as the possible adverse consequences
(including financial loss) of decisions based on models that are incorrect or misused.
Those consequences should be addressed by active management of model risk.[PageBreak]
- Unless otherwise