PelatihA model inventory records every model in use with its owner, purpose, users, validation status and known limitations. Model tiering classifies models by the damage they can do (materiality of use, complexity, uncertainty of inputs and assumptions) and sets the depth and frequency of validation accordingly.
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Example 26.10 (The firm’s inventory)
Scoring eight of this book’s models from 1 to 3 on materiality (counted twice), complexity and uncertainty, and placing tier 1 at a score of 10 or more and tier 2 at 7 or more (an illustrative policy), gives five tier 1 models (the SABR cube, the prepayment model, the exposure engine, the VaR model and the deposit model), two tier 2 (the curve and the Bermudan pricer) and one tier 3 (the margin forecast). Tier 1 models are revalidated every year, tier 2 every two, tier 3 every three.