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FRM Part II · FRM Exam Part II · Capital Planning at Large Bank Holding Companies: Supervisory Expectations and Range of Current Practice

A bank's pre-provision net revenue (PPNR) model for fee income was fitted using data from 2012-2019, a benign period with no severe downturn. In reviewing the model for capital planning, which concern would a supervisor most likely raise?

The concern is that a model fitted only on benign data may not reflect revenue behavior in severe stress. Banks should recognize this limitation and address it with overlays, alternative data, or conservative assumptions, and document the justification for the approach.

  1. AFee income is not a component of PPNR
  2. BHistorical data lacking stress conditions may not capture how revenues behave under severe scenarios, so the model needs adjustment, overlays or justificationCorrect
  3. CPPNR models must always use more than 20 years of data
  4. DRevenue models should be unaffected by the scenario to remain stable

Explanation

Models calibrated on benign periods may understate revenue declines in stress. Supervisors expect banks to recognize this limitation and address it through overlays, alternative data or conservative assumptions. No fixed 20-year rule exists, and fee income is part of PPNR.

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