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FRM Part II · FRM Exam Part II · Supervisory Guidance on Model Risk Management

A bank's model validation team reports to the head of the trading desk that relies on the models it validates, and its bonus is tied to desk profit. Which governance principle is most clearly compromised?

Effective challenge is compromised. Validators reporting to the desk that uses the models, with pay linked to desk profit, lack independence and proper incentives, so they cannot objectively and credibly challenge model developers and users.

  1. AModel documentation completeness
  2. BEffective challenge through independence, competence and influence of validatorsCorrect
  3. CUse of vendor models
  4. DFrequency of model performance monitoring

Explanation

Supervisory guidance requires effective challenge, which depends on validators being independent of model development and use, having appropriate incentives, competence and organizational standing. Tying validators to desk profit undermines incentives and independence. The other items are not the principal issue described.

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