Strategic Modeling Capabilities Help Banks Navigate Disruption

By Henri Wajsblat

April 7, 2020

Amid the outbreak and spread of the novel coronavirus, businesses and consumers around the world have had to adapt quickly to shifting regulations from local and national authorities. The resulting turmoil across economies and markets has led to stimulus and policy shifts as governments attempt to ease the burden felt by businesses and consumers during this time. Banks play a crucial role in supporting markets, consumers and core customers, and as such, are tasked with acting swiftly and strategically to assist those affected by the disruption.

This requires banks to be increasingly agile as they monitor the balance sheets of their core customers, forecast in advance and respond in real-time to a number of ever-changing scenarios. Be it households or small businesses in need of cash, medium or large corporate customers delaying the payments of their loans, investors concerned about the volatility of the stock markets, regulators tightly monitoring the solvency of governments and financial institutions, or industries facing massive impact such as airlines and retail, banks are called on to help navigate the storm, and their ability to act decisively will be crucial to their success.

At the same time, banking CFOs are tasked with monitoring their company’s performance as they look to mitigate risk and drive continuity. Running daily stress tests, leveraging strong modeling capabilities and having a holistic view of company-wide data will help these CFOs maintain a clear view of their profitability, liquidity and solvency.

Modeling revenue and costs

Continued macroeconomic disruption and volatility across global markets will require banks to be increasingly forward-looking. Banks will be tested by their ability to analyze potential variables, make strategic performance assumptions and adjust plans in real-time to drive continuity for their customers and their portfolio.

An extended slowdown in economic activity, for instance, will put increased pressure on fees and net interest margins just as expenses and credit losses are elevated. Without a clear timeline for recovery, banks will need to rely on strategic and predictive forecasting capabilities to anticipate trends, understand the potential short-term impact and drive fast and insightful analysis that will contribute to long-term resiliency. Given the rapid pace at which economic and social conditions continue to evolve, these forecasts must also be highly dynamic to allow for adjustments in real-time. Fluid insights will need to be automatically incorporated into modeled scenarios so that banks can act quickly and decisively when change occurs.

Credit losses and profitability impacts

In the next few months, banks can also anticipate that the economic slowdown will hit consumers and corporations with low reserves of cash and significantly increase default rates in their credit activities. Considering IFRS9 and Current Expected Credit Losses (CECL) regulatory frameworks, when loan repayments are at risk, banks are required to recognize provisions for the entire lifetime of the loan. As a result, if the economic slowdown drives a significantly higher risk on loan payments, banks will see an impact on their profitability and a reduction in their ability to provide new credit lines.

Monitoring core customers’ balance sheets and retaining a clear view of their cash flows will be top of mind for banking CFOs. The ability to model out expected credit loss calculations and develop what-if scenarios based on variables like default rates and asset staging will help banks better anticipate changes to debt covenants so they can properly asses their exposure as market volatility continues. With a clear understanding of risk and the ability to adjust models quickly as circumstances change, banks can feel confident making decisions on their lending activities in real-time.

Balancing financing with liquidity

In the event of an economic recession, a bank’s financing efforts, supported by lower interest rates, will be vital to helping consumers and businesses in need of cash. However, banks will also need to balance their distribution of liquid assets with their regulatory capital requirements to protect themselves against the threat of a financial crisis. This balancing act will require high levels of visibility and will test a bank’s ability to be more predictive when it comes to forecasting.

Having a more holistic view of actionable data and open channels of communication will help banking CFOs forecast scenarios of increased financing activities with a clear understanding of their own solvency and liquidity. Stronger insights and greater collaboration will also help banks continuously monitor their key performance indicators and maintain regular communication with necessary team members so they can support economic recovery without risking financial stability.

The path forward

As ongoing disruption continues to spur rapid change across markets and industries, banks will be tested by their ability to adopt and revise plans quickly and effectively in order to provide support to their customers. To do so, banks will rely on stronger insights, advanced modeling capabilities and increased visibility to continuously reassess a wide range of ever-changing variables and make confident decisions in real-time. Leveraging the right tools can not only help banking CFOs feel better prepared to support consumers and customers impacted by disruption but identify new forward-looking opportunities without risking liquidity or depressing profits.