Migration Analysis: The Way Forward for an Effective ALLL. Financial institutions will learn about using migration analysis as a methodology to calculate their ALLL. The content covers: the process of migration analysis, how the methodology is viewed by regulators, challenges financial institutions face in implementing the methodology, benefits of using migration analysis compared to other methods, and an overview of recommendations for a financial institution considering implementing migration analysis. Learning Objectives: 1) To understand what Migration Analysis is, and its role in calculating the ALLL. 2) To understand how Migration Analysis differs from other methodologies used in calculating a financial institution’s ALLL. 3) To gain an understanding of how Migration Analysis works within a loan portfolio. 4) To identify key requirements a financial institution needs to implement Migration Analysis, and how they can pose challenges. 5) To learn how Migration Analysis is viewed by regulators/regulation. 6) To identify the key benefits of using Migration Analysis over other methodologies. 7) To identify preparations a financial institution can take to transition from an existing methodology to Migration Analysis. 8) To understand how the advent of automated solutions has simplified Migration Analysis for financial institutions.

1. Date of last revision: June 6, 2014

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3.  What is Migration Analysis?
 Examples
 What Regulation Says
 Preparing for Migration Analysis
 Benefits of the Methodology
 Migration Analysis & CECL
 Why many banks do NOT currently use migration analysis
 How an automated ALLL solution can help

4.  Migration analysis is a methodology that evaluates a pool of
loans to default or loss over a certain time frame
 How is it different from other methodologies:
◦ Historical Loss
◦ Peer Group Data/Call Report
◦ Probability of Default/Loss Given Default

5.  Used by banks able to handle extended loan level gathering
requirements
◦ Adequate number of loans in each pool is necessary
 Archived quarterly periods
 Individual:
◦ Loan balance
◦ Segmentation
◦ Risk rating/level
◦ Full & partial charge-offs
◦ (Optional) Days past due

6.  Segmentation of loan portfolio into pools
 Gather historical loan data
 Track individual loans to loss over a selected time horizon
through chosen sub-segments
 Apply and document calculated loss rate to today’s sub-
segmentation balances

10.  Detailed sub-segmentation is required to accurately measure
migration
◦ Segment into homogenous pools
◦ Sub-segment by risk level, risk rating, or days past due
 Accurately and consistently enforced loan review process
 When segments change due to reorganization or merger,
those changes must be pushed back in time
 Loss horizons
◦ Segments perform differently over time and may need different
migration periods

11.  Does not specify one, best, method for determining historical loss
experience
 “… depends to a large degree upon the capabilities of its
information systems”
 Does encourage a “comprehensive” approach, which requires
more robust data and analysis to increase accuracy

12.  Bolster your risk rating system
 Set up processes to collect sufficiently granular data
 Assure loan-level historical data is accurate
 Invest in technologies equipped to manage and deploy as needed
 Run multiple scenarios to understand the impact of switching to
migration analysis before switching entirely.

13.  Examiners see it as a more sophisticated methodology
 More granular, with extensive segmentation of the portfolio
 Should result in a more accurate allowance
 Insight into changes in portfolio composition and credit quality
deterioration

14.  Migration analysis adjusts the ALLL provision to reflect the
conditions of the current portfolio
 Can more effectively justify a decrease in provisions, if
merited
◦ Subjects institution to less examiner scrutiny
 Can drive pro forma projections

15. Current Historical Loss Rates Future Expected Loss Rates
Data required each quarter Data required each quarter
Charge-offs Charge-offs
Recoveries Recoveries
Aggregate pool data Aggregate pool data
Beginning balance pool Beginning balance pool
Ending balance pool Ending balance pool
Risk rating by individual loan
Individual loan balance
Individual loan charge-offs &
recoveries (partial + full)
Loan duration

16. Insufficient
data history
24%
Not enforced
by my
examiners
20%Portfolio
size
limitations
13%
Insufficient
capabilities to
run
24%
Don't fully
understand
19%
Why is your financial institution not using
migration analysis?

17.  Difficult to manage in spreadsheets & without due resources
 Requires significantly more granular, loan-level data
◦ 1,000 loans require 36,000 lines of data for three year’s worth of
analysis
 Portfolios must have sufficient volume to allow for sub-
segmenting—difficult for small institutions
 Requires historical, high-quality data and well-managed risk
rating system

18. Advent of automated ALLL solutions have made process of
migration analysis much easier
 Save time in data aggregation and entry
 Reduce manual errors in calculations
 Generate documentation
 Reduce examiner criticism

19. Benefits
 Examiners believe it’s more
sophisticated
 More granular
 Highlights changes in portfolio
composition and quality
 Can drive pro forma projections
 Can more effectively justify a
decrease in provisions, if
merited
 Assist in preparing for FASB’s
CECL
Challenges
 Difficult in spreadsheets
 Requires more granular data
 Portfolios have to have
sufficient volume
 Requires historical, high-quality
data and well-managed risk
rating system