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

Under SR 11-7, which of the following would most likely be classified as a 'model' requiring model risk management?

The probability-of-default calculator is a model because it applies statistical techniques and assumptions to turn input data into quantitative estimates used in decisions. Simple summation spreadsheets, policy manuals and price databases do not produce estimates from theory-based assumptions, so they fall outside the SR 11-7 definition.

  1. AA spreadsheet that totals daily trade tickets by desk with no assumptions or estimation
  2. BA calculator that applies statistical techniques and assumptions to estimate probability of default from borrower data, whose output is used for provisioningCorrect
  3. CA policy manual describing the approval limits for loan officers
  4. DA database that stores historical market prices without transformation

Explanation

SR 11-7 defines a model as a quantitative method, system or approach applying statistical, economic, financial or mathematical theories and assumptions to process input data into quantitative estimates. The PD calculator fits that definition. Simple aggregation, manuals and storage involve no such estimation.

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