3. Exposure And Recovery
Exposure at Default (“EAD”), which is one of the parameters for the computation of ECL, should be estimated by incorporating the context of the Covid-19 crisis as follows:
• Firstly, exceptional drawdowns permitted under TESS should be reflected in the calculation of EAD.
• Secondly, any other realized drawings under loan contracts such as revolving facilities and overdrafts are also expected to impact EAD.
• Thirdly, the predictions made by statistical EAD models are likely to deviate from realized drawdowns during the crisis. Therefore, banks and finance companies should critically assess the expected exposures under off-balance sheet facilities, in particular across wholesale and retail clients. If necessary, temporary add-ons and overlay can be considered, rather than model recalibration. It is essential that overlays are the subject of high-quality governance, given the unprecedented nature of the current situation.
The Covid-19 crisis is also expected to impact loss given defaults (“LGD”). Banks and finance companies should take the necessary steps to understand the implication of the crisis on the drivers of LGD, including but not limited to (i) the cash situation of clients, (ii) the value of collateral and (iii) the enforceability of guarantees. In light of the potential illiquidity of certain types of collateral during the crisis, banks and financial companies are encouraged to consider the appropriateness of their valuation methods. Finally, for government guarantees, banks and finance companies should analyze whether such support should be incorporated in the LGD of the facility or considered as a separate reimbursement.
For the duration of the Covid-19 crisis, we do not expect any re-calibration of the LGD models, unless such re-calibration is necessary to rectify deficiencies identified prior to the Covid-19 crisis.