Flash back to the late 90s when Y2K was all the rage. I remember the panic that transcended virtually all segments of the software market. Will our interest calculate correctly? How will we track maturities? Will the coffee maker work? The sky was falling! Whoever thought that having a two-digit data field representing the calendar year would be such a big deal? Well, it was a big deal. Or at least it appeared to be at the time.
Many approached the pending millennium as if it were the literal end of the world. Stockpiles of food, water, supplies, cash, etc. were collected in bank vaults and basements throughout the country. People fled the financial markets and moved their wealth to various forms of liquid assets. The most interesting part was … nothing significant happened. The two-digit year was a real problem, but the software providers recognized the issue, developed a plan to correct the problem, and implemented it in time to avoid disaster.
So, how does this relate to CECL?
In 2016, the Financial Accounting Standards Board (FASB) finalized the Current Expected Credit Loss (CECL) standards. Today, financial institutions (FIs) use incurred losses to determine impairment when cash flows reflect the inability to retire the debt. Under the new CECL standards, FIs will be utilizing historical information, current conditions, and reasonable forecasts to estimate the expected loss over the life of the loan. This will require significantly more data from multiple sources to arrive at the appropriate valuation.
Why is this a problem?
FIs house this data in a variety of systems that do not communicate with each other. FIs need to develop a system to compile all this data, analyze it, and make the appropriate estimate of credit loss. On the surface, this again is a daunting task.
Bringing this full circle, FIs are very concerned about their systems being able to manage these new requirements by the implementation deadline in 2020 or 2021, depending on the organization. There are articles, webinars, and podcasts informing FIs daily of how difficult this will be, thus fueling the fear that is already in the market. FIs are trying to understand the requirements as well as the potential remedies to the issue.
Look, CECL is a known issue. Software providers across the country are preparing their remediation plans, and many have already made significant progress in developing their CECL model. I assure you that long before the deadline rolls around, the models will be in place, vendors and FIs will have worked together to make the data accessible, and the technology will have been proven sound. FIs will be able to properly estimate their impairments based on the new FASB standards.
So let’s remember Y2K, stay current on CECL developments, and party like it’s 1999!!