News release: The Office of the Comptroller of the Currency (OCC) has adopted the attached Supervisory Guidance on Model Risk Management. This guidance, developed jointly with the Board of Governors of the Federal Reserve System, articulates the elements of a sound program for effective management of risks that arise when using quantitative models in bank decision making. It also provides guidance to OCC examining personnel and national banks on prudent model risk management policies, procedures, practices, and standards…Banks routinely use models for a broad range of activities, including underwriting credit; valuing exposures, instruments, and positions; measuring risk; managing and safeguarding client assets; and determining capital and reserve adequacy. In recent years, banks have applied models to more complex products and with more ambitious scope, such as enterprise-wide risk measurement. Changes in regulation, particularly the new regulatory capital rules based on the framework developed by the Basel Committee on Banking Supervision, have spurred some of the recent developments. Models can improve business decisions, but they also impose costs, including the potential for adverse consequences from decisions based on models that are either incorrect or misused. The potential for poor business and strategic decisions, financial losses, or damage to a bank’s reputation when models play a material role is the essence of “model risk”. Model risk should be managed like other types of risk: Banks should identify the sources of that risk, assess its magnitude, and establish a framework for managing the risk. The extent and nature of the risk varies across models and banks; risk management should be commensurate with the nature and scope of the risk. Model risk management should include disciplined and knowledgeable development and implementation processes that are consistent with the context and goals of model use and with bank policies. Banks should objectively assess model risk using a sound model validation process, including evaluation of conceptual soundness, ongoing monitoring, and outcomes analysis. Model usage provides opportunities to test whether a model is functioning effectively and assess its performance over time. A central principle for managing model risk is the need for “effective challenge” of models: critical analysis by objective, informed parties who can identify model limitations and assumptions and produce appropriate change. Effective challenge depends on a combination of incentives, competence, and influence.”