Impairment Analysis: Key Clearwater Reports

Last week, Clearwater hosted the webinar Impairment Analysis: Impacts of Current Volatility. During the presentation, my co-presenters and I took an in-depth look at the current market situation, addressed impairment analysis from both qualitative and quantitative perspectives, and discussed the potential long-term effects of the market’s unprecedented volatility.

Many webinar participants had questions regarding how Clearwater’s investment accounting and reporting solution can assist in the impairment process. To address those questions, I will take a deeper dive into the reports available for impairment analysis as well as application for managing impairments and allowances using the Clearwater platform.

You can also watch a recording of the webinar, which features panelists from J.P. Morgan Asset Management and the former CIO of Oracle, here.

Impairment Key Takeaways from Q1 2020

• Many firms are making efforts to de-risk their portfolios while many others are taking advantage of opportunities to take on more risk
• Evaluation metrics and processes for determining impairments and allowances should be reevaluated in light of recent market events and should include heightened rigor
• The Clearwater platform provides clients with powerful information to determine where losses are coming from (i.e., spreads and credit events)
• Justification for audit on increases to asset impairments and allowances can easily be provided using the Clearwater platform

Investment Strategy

In times of heightened market volatility, firms must first determine how they will adjust their investment strategies to accommodate both short-term and long-term investment goals.

From an investment strategy standpoint, as a result of more than 7,500 security downgrades in the month of March, many investors on the Clearwater platform took the approach of selling securities that experienced downgrades as a means of de-risking their portfolios; others took a more opportunistic approach and purchased the same securities that were sold after downgrade. In fact, seven of the top 10 issuers sold after downgrade on the Clearwater system were also in the top 10 issuers purchased.

Despite these behaviors, many firms were and are still unwilling to accept short-term losses. Those firms subject to other-than-temporary-impairments (OTTI)* as well as those firms that have adopted CECL** or are preparing for CECL, must assess which aspects of the current volatility may be permanent through both quantitative and qualitative analysis.

To learn more about investors’ behaviors in Q1, read our article, Impairments: Data-Driven Analysis of Recent Investor Activities.

Analysis

While there are a number of variables to consider when making impairment decisions, especially during heightened market volatility, investors must determine the factors that indicate whether impairments are “temporary” or “permanent”. In last week’s webinar, we focused on credit events, spreads, pricing on credit default swaps, and trading volume at distressed pricing as means for assessing permanent impairments. Looking at data from the Clearwater platform, it’s clear that our clients have focused their analysis efforts around credit events and spreads.

Clearwater Reports

Clearwater provides daily information valuable for analysis, offers comprehensive accounting and post impairment reporting at the tax-lot level for holdings to ensure our clients have the data needed for making daily/monthly/quarterly impairment and/or allowance decisions as well as the audit support for justifying impairments and allowances.

The following reports can be used to assess portfolio risk and exposure as well as assessment of permanent losses through analyzing credit events and spreads.

Credit Events: From a credit loss perspective, one of the most valuable reports Clearwater offers is the ‘Credit Events’ report. On this report, clients are able to filter down to see outlook changes and credit events such as downgrades.

Exposure: Clearwater’s suite of risk reports includes exposure and concentration to metrics such as industry and market sectors, credit rating, issuer and duration.

Performance Contribution: The Contributors report can be used to assess the volatility of returns broken out by several metrics including industry or market sector, credit rating and/or issuer.

Impairment/Allowance: The Impairment/Allowance report shows all lots sitting at a loss. Comparison columns can be added to this report to assess changes in losses and well as aging associated with losses. This report is used for writing securities down as well as adding allowances for those authorized users.

Transactions: The transactions report can be used to assess the differences in price and the option-adjusted spread (OAS) between when a security was purchased and how the security sits today for securities sitting at a loss.

Historical Disclosures: The Historical Disclosures report can be used to compare daily, weekly, monthly or quarterly metrics such as income, market price, present value of cash flows, etc.

Practical Application: OTTI

For those firms subject to OTTI (i.e., non-public entities not filing with the SEC, SEC filing ‘smaller reporting companies’*** or non-public insurance companies following STAT guidelines) Clearwater supports the ability for authorized users to write down impaired securities using the following report.

Impairment: Writedowns are available in Clearwater’s Accounting Module to clients in multiple basis. The Impairment reports allow authorized users to write securities down by lot through Clearwater’s writedown tool. This tool guides users through the write down process. All accounting entries associated with writedowns are available in Clearwater’s General Ledger suite of reports.

Practical Application: CECL

ASU 2016-13, Financial Instruments – Credit Losses, requires the immediate recognition of management estimates of CECL for assets held at amortized cost through an allowance method as opposed to an impairment mode by public business entities that are SEC filers and do not qualify as a smaller reporting company and follow GAAP accounting. To accommodate the new CECL guidelines, Clearwater has developed the following reports.

Impairment/Allowance: Using the Impairment/Allowance reports, clients are able to dictate whether a loss should be written down if it is deemed as other than temporary. From there, authorized users have the ability to add in an allowance amount that flows in to Clearwater’s General Ledger suite of reports.

Allowance for Credit Losses Roll-Forward: The Allowance for Credit Losses Roll-Forward shows allowances rolled from one period to the next for AFS or HTM portfolios. This can be used to assess if allowances need to be recalculated in the current period.

PCD Reconciliation: Under CECL guidance, if assets are purchased with credit deterioration since origination (PCD), the allowance at the time of acquisition should be included and the amortized cost should be grossed up to offset the allowance. The PCD Reconciliation report displays the initial allowance determined on each PCD lot.

If you would like to learn more about the Clearwater solution, or see a demo of the system, don’t hesitate to get in touch. Our solutions consultants work closely with the world’s biggest institutional investors to understand their unique operational and technology needs. We would appreciate the opportunity to share what we know.

To learn more about how we are helping companies like yours, contact our Solution Consultants Team.

* Non-public, non-SEC filing entities
** Public business entities that are SEC filers and do not qualify as ‘a smaller reporting company’ and follow GAAP accounting
*** Companies with a public float of less than $250 million or annual revenues of less than $100 million