ABA Banking Journal
No Result
View All Result
  • Topics
    • Ag Banking
    • Commercial Lending
    • Community Banking
    • Compliance and Risk
    • Cybersecurity
    • Economy
    • Human Resources
    • Insurance
    • Legal
    • Mortgage
    • Mutual Funds
    • Payments
    • Policy
    • Retail and Marketing
    • Tax and Accounting
    • Technology
    • Wealth Management
  • Newsbytes
  • Podcasts
  • Magazine
    • Subscribe
    • Advertise
    • Magazine Archive
    • Newsletter Archive
    • Podcast Archive
    • Sponsored Content Archive
SUBSCRIBE
ABA Banking Journal
  • Topics
    • Ag Banking
    • Commercial Lending
    • Community Banking
    • Compliance and Risk
    • Cybersecurity
    • Economy
    • Human Resources
    • Insurance
    • Legal
    • Mortgage
    • Mutual Funds
    • Payments
    • Policy
    • Retail and Marketing
    • Tax and Accounting
    • Technology
    • Wealth Management
  • Newsbytes
  • Podcasts
  • Magazine
    • Subscribe
    • Advertise
    • Magazine Archive
    • Newsletter Archive
    • Podcast Archive
    • Sponsored Content Archive
No Result
View All Result
No Result
View All Result
Home Compliance and Risk

COVID-19: A Positive Disruptor to Expected Credit Loss Models

November 12, 2020
Reading Time: 4 mins read
COVID-19: A Positive Disruptor to Expected Credit Loss Models

By Amnon Levy and Tim Daly

With COVID-19 continuing to batter the global economy, many banks are struggling to model projected credit losses that enter third quarter reports under the Current Expected Credit Loss (CECL) model and, for large and regional banks, in their Comprehensive Capital Analysis and Review submissions.

It is clear that COVID-19 is affecting credit risk across industries in ways that differ from past recessions, and that macroeconomic relationships are not holding to their historical patterns. Referencing the relationship between unemployment and inflation, Federal Reserve Vice Chairman Richard Clarida recently noted that economic models “can be and have been wrong.” In a similar vein, highly sophisticated quantitative credit loss models are often requiring significant qualitative adjustments that are based on cumbersome supplemental analyses.

Credit loss models: challenges in the current environment

The current challenges of quantitative credit loss modeling relate primarily to insufficient data that accurately describes the current credit environment used in bank estimates along with rigidity in model oversight. For example, CECL models may rely on macroeconomic scenarios defined by broad-brush variables, such as unemployment, that are insufficiently differentiated across industry segments.

Moreover, the models may be calibrated to historical data that include recessions that are themselves unique.

Models that calibrate the sensitivity of credit losses using the last 20 years of pre-COVID data simply will not pick up on the varying degrees to which different industries are affected by COVID-19.

Macroeconomic scenarios described only by an increase in national unemployment, for example, cannot differentiate among the 2001 dot-com bust’s effects on technology and telecom, the 2008-09 crisis for financial institutions, and the current COVID-19 effects on hospitality, entertainment and leisure. On top of all this, each recession brings different fiscal and monetary stimulus programs, which further distances the current environment from being properly described by the historical relationships between credit quality across industry segments and macroeconomic variables.

Plenty of uncertainty in credit market signals

Millions of payment deferrals, combined with various regulatory and legislative relief, present another challenge to understanding credit risk, as the magnitude of a looming wave of defaults and evictions is unclear. While funding needed to bolster corporate loans is available, especially to those with access to securities markets, much uncertainty remains about the effectiveness of its form. Programs to further support individuals remain in congressional gridlock. Uncertainty in mortgage, auto, and credit card defaults will, in turn, result in uncertainty in losses on ABS and RMBS. Fiscal and monetary programs designed to bolster financial markets and the firms that rely on securities in ways that may be distorting market signals which are often used in credit loss models, such as bond spreads and equity market performance.

Meanwhile, the epidemiological progression of the pandemic and the sociological response have resulted in further breakdown of historical relationships. For example, unlike in previous recessions, the auto industry has this time been affected by both a demand shock and a supply shock (the latter caused by both breakdowns in the supply chain as well as virus-related labor shortages) that have sometimes resulted in seemingly puzzling mid-recession price increases. At the same time, data from home office and outdoor furniture manufacturers highlight even more “un-recession”-like patterns, with shifting workplace and outdoor sporting cultures driving increased demand.

More granular data are essential

It is ever more apparent that the segmentation and classifications initially being used by financial institutions are often insufficient.

More current and granular data are needed. A classification of “restaurant,” for example, is not nearly as relevant as whether it is a takeout restaurant in Utah or a fine-dining restaurant in midtown Manhattan. Roadside hotels and suburban office space are exhibiting resiliency and not experiencing the same impact of cultural shifts to remote work and away from downtown office space and hotels, along with the wide range of downstream cross-industry implications and credit consequences. COVID-19 has also unveiled hidden concentration risks, such as credit to the airline and cruise industries which, like restaurants, rely on business models in which customers are within close physical proximity to each other—inherently problematic in the current environment.

The murky picture offered by traditional data, segmentation and modeling has forced a reckoning of sorts and the incorporation of nontraditional data in credit modeling. Cross-state epidemiological and Google mobility data, for example, can provide guidance to address shortcomings in a model’s ability to discriminate across portfolio segments, as well as the extent to which credit quality may be impacted by possible permanent localized cultural shifts. Granular data on government programs, disposable income and consumer spending patterns may further comprise more informative and robust economic indicators than, say, unemployment alone.

Changing conditions require model agility

Financial institutions need to expand the data they monitor—and how they use it in credit modeling. But they also must recognize the need for quantitative models that can adapt to quickly changing environments. The extensive and cumbersome two-to-four-month review by model risk management renders many analyses stale, given the speed of COVID-19 developments. This limits the relevance of quantitative models in loan origination and business strategy, often relegating the models merely to regulatory compliance and financial reporting. This rigidity can often be largely overcome through the availability of granular data that banks can adopt, depending on the circumstances, their individual portfolios, and economic conditions.

While third quarter reporting and CCAR submissions used models that are ostensibly validated, this situation calls for a more dynamic monitoring by which financial institutions can quickly leverage benchmarks and analyses recognizing immediate and practical considerations. This is critical today as organizations prepare for fourth quarter 2020, for 2021, and for the next inevitable economic crisis down the road. After all, by their very nature, crises will reveal behavior incongruent to historic patterns.

Amnon Levy is managing director and head of portfolio and balance sheet research at Moody’s Analytics, where Tim Daly is senior director and head of America strategic relationships.

Tags: CECLCoronavirusCredit riskLoan loss accountingModel riskRisk management
ShareTweetPin

Related Posts

Predicting what is ahead for banks

Compliance and Risk
January 21, 2026

Bankers face challenges and opportunities in multiple key areas.

Banking agencies release CRA data on small-business, small-farm lending in 2023

ABA offers recommendations for implementation of new ag lender tax benefit

Ag Banking
January 20, 2026

ABA offered several recommendations for how the IRS should implement a new tax benefit for lenders serving rural and agricultural communities, which was included in a tax package passed by Congress last year.

ABA unveils key policy priorities for 2025

ABA releases top policy priorities for 2026

Community Banking
January 20, 2026

ABA released its 2026 Blueprint for Growth, outlining its top policy priorities for the year ahead. Developed by ABA’s Government Relations Council, the Blueprint will shape the association’s ongoing engagement with Congress and the administration on the most...

State legislatures enter their busy season

State legislatures enter their busy season

Policy
January 20, 2026

Bank advocates expect 2026 to be a hectic year for state legislation, with possible bills on interchange fees, fraud, AI and more. 

OCC’s Gould: Bank regulation should not distract banks from business challenges

Gould suggests easing bank resolution planning requirements

Compliance and Risk
January 16, 2026

Comptroller of the Currency Jonathan Gould said he sees no benefit in the FDIC continuing to require filings from large banks that detail their suggested orderly resolution in case of a bank failure, known as CIDI plans. He...

FHFA to create affordable housing advisory committee

HUD proposes to remove disparate impact from Fair Housing Act rule

Compliance and Risk
January 14, 2026

The Department of Housing and Urban Development is proposing to rescind three rules allowing the use of disparate impact in determining Fair Housing Act violations.

NEWSBYTES

Trump directs agencies to restrict housing ownership by large investment firms

January 21, 2026

ABA offers recommendations for implementation of new ag lender tax benefit

January 20, 2026

High Plains in Colorado to buy First National Bank of Hugo

January 20, 2026

SPONSORED CONTENT

Seeing More Check Fraud and Scams? These Educational Online Toolkits Can Help

Seeing More Check Fraud and Scams? These Educational Online Toolkits Can Help

November 1, 2025
5 FedNow®  Service Developments You May Have Missed

5 FedNow® Service Developments You May Have Missed

October 31, 2025

Cash, Security, and Resilience in a Digital-First Economy

October 20, 2025
Rethinking Outsourcing: The Value of Tech-Enabled, Strategic Growth Partnerships

Rethinking Outsourcing: The Value of Tech-Enabled, Strategic Growth Partnerships

October 1, 2025

PODCASTS

Podcast: A Lone Star banking perspective

January 15, 2026

Podcast: The incredible shrinking penny (circulation)

January 8, 2026

Podcast: Cybersecurity in a mobile-first banking landscape

December 18, 2025

American Bankers Association
1333 New Hampshire Ave NW
Washington, DC 20036
1-800-BANKERS (800-226-5377)
www.aba.com
About ABA
Privacy Policy
Contact ABA

ABA Banking Journal
About ABA Banking Journal
Media Kit
Advertising
Subscribe

© 2026 American Bankers Association. All rights reserved.

No Result
View All Result
  • Topics
    • Ag Banking
    • Commercial Lending
    • Community Banking
    • Compliance and Risk
    • Cybersecurity
    • Economy
    • Human Resources
    • Insurance
    • Legal
    • Mortgage
    • Mutual Funds
    • Payments
    • Policy
    • Retail and Marketing
    • Tax and Accounting
    • Technology
    • Wealth Management
  • Newsbytes
  • Podcasts
  • Magazine
    • Subscribe
    • Advertise
    • Magazine Archive
    • Newsletter Archive
    • Podcast Archive
    • Sponsored Content Archive

© 2026 American Bankers Association. All rights reserved.