Current expected credit loss--not just for loans

The Financial Accounting Standard Board's (FASB) proposed Current Expected Credit Loss (CECL) model for projecting losses is intuitively appealing. It takes into consideration probability of default rather than simply evidence of default. While the discussion over this proposal to date has focused on loans, its approach for modeling losses should also be incorporated into mortgage senticing pricing decisions. Investors in mortgage loan portfolios have historically reserved for loan losses based on the Incurred Loss Method. Under the FASB proposal, this will change to the CECL method. This method requires investors to record expected losses at origination for loan characteristics that might indicate a lower probability of repayment. Level1Analytics recently analyzed a large, diverse and seasoned portfolio of mortgage servicing rights. The proposed CECL model is intuitively appealing, and its approach should be incorporated into modeling losses as part of servicing valuations.