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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

During a capital plan review, a supervisor notes that a bank's loss estimates under stress were derived from models whose limitations were never documented, and that senior management applied unexplained overrides to the outputs. Which is the most appropriate supervisory criticism?

The criticism is weak model governance. Supervisors expect model limitations to be documented and management overrides to be justified, transparent and subject to effective challenge. Unexplained overrides and unknown limitations undermine confidence that stressed loss estimates reliably support the capital plan.

  1. AModel outputs should be replaced entirely by management judgment
  2. BWeak model governance, with limitations and overrides not transparently documented and challengedCorrect
  3. CThe bank should use only a single model for all portfolios
  4. DThe bank should exclude operational losses from the projections

Explanation

Sound practice requires that models be validated, limitations understood, and overlays or overrides be documented, justified and subject to effective challenge. Undocumented limitations and unexplained overrides signal weak governance of models and judgment. Replacing models with judgment or using one model would worsen rigor, and excluding operational losses would omit a loss source.

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