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

OCC proposes to cite federal preemption of state interest-on-escrow laws

OCC finalizes rules citing federal preemption of state interest-on-escrow laws

Compliance and Risk
May 15, 2026

The OCC finalized two rules to clarify that national banks are exempt from state laws regulating real estate escrow accounts. Both rules were first proposed late last year.

FDIC adopts changes to signage rules

FDIC updates signage rules Q&A to reflect recent changes

Compliance and Risk
May 15, 2026

The FDIC has updated the Q&As for its signage and advertising requirements to reflect recent changes to the regulation.

Report: FDIC not ready to handle regional bank failures at time of SVB collapse

FDIC releases study of 2023 bank failures

Compliance and Risk
May 14, 2026

The FDIC released a detailed analysis of the 2023 spring bank failures, finding that depositors with “substantial” uninsured funds were far more likely to run during the stress than insured retail depositors.

Survey: Banks boosting cybersecurity due to AI while also investing in technology

CISA, G7 release guidance for AI software ‘ingredients list’

Compliance and Risk
May 14, 2026

CISA and the G7 have released joint guidance to help public and private sector stakeholders improve transparency in their artificial intelligence systems and supply chains.

ABA urges FCC to modernize calling rules, strengthen fraud protections

ABA supports issuance of ‘know your upstream provider’ proposal

Compliance and Risk
May 13, 2026

ABA expressed its support for FCC Chairman Brendan Carr’s decision to schedule a May 20 vote on issuing a proposal that would impose stronger “know your upstream provider” requirements on voice service providers that allow calls to pass...

ABA, associations urge Congress to overturn CFPB credit card late fees rule

House committee advances ABA-backed bills on bank supervision, fighting scams

Compliance and Risk
May 13, 2026

The House Financial Services Committee advanced two bills supported by ABA as part of a package of proposed legislation on topics ranging from fighting scams to AI. Both bills passed by unanimous vote.

NEWSBYTES

ABA DataBank: Fed rate hike reset

May 15, 2026

OCC finalizes rules citing federal preemption of state interest-on-escrow laws

May 15, 2026

ABA, associations offer recommendations for streamlining FHA financing

May 15, 2026

SPONSORED CONTENT

Credit Memos at the Convergence Point

Credit Memos at the Convergence Point

May 1, 2026
Digital Account Opening: Think Outside the Box for Maximum Business Impact

Digital Account Opening: Think Outside the Box for Maximum Business Impact

April 29, 2026
Why Your Systems Keep Slowing Down — and What to Do About It

Why Your Systems Keep Slowing Down — and What to Do About It

April 21, 2026
Planning Your 2026 Budget? Allocate Resources to Support Growth and Retention Goals

How leading banks are enhancing customer engagement through financial data insights

April 10, 2026

PODCASTS

Podcast: How consumer deposits drive full relationship banking

May 14, 2026

Podcast: How an Ohio banker talks with policymakers about stablecoin issues

May 6, 2026

Podcast: Tech transformation and AI to power bank growth

April 29, 2026

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.