Cutting through the hype: how CECL is impacting investor views of procyclicality, credit analysis and M&A

Saul Martinez and Catherine Mealor

Concerns about procyclicality and earnings volatility dominated discussions about CECL with investors before its implementation on January 1, 2020. Since then, these conversations have evolved, with dialogue becoming focused on how CECL will impact this economic cycle, and how to analyse and forecast credit risk and trends under the accounting standard. This chapter will therefore examine the following six questions that investors most frequently ask us.

1. Will CECL allow banks to be better reserved at the start of a cycle?

2. When to invest: peak provisions or peak losses?

3. How quickly will the CECL model allow for reserve releases, and how will the market react?

4. How will investors analyse core profitability under CECL?

5. How can investors effectively compare reserves between banks under CECL?

6. How has CECL impacted the way investors analyse mergers and acquisitions (M&A) activity?

TOPIC 1: WILL CECL ALLOW BANKS TO BE BETTER RESERVED AT THE START OF A CYCLE?

The delayed recognition and procyclicality of the incurred loss model was one of its biggest flaws. One of the primary motivations for CECL was to create a reserving methodology that allows