Goldman Sachs 2015 Annual Report Download - page 64

THE GOLDMAN SACHS GROUP, INC. AND SUBSIDIARIES
Management’s Discussion and Analysis
Controls Over Valuation of Financial Instruments.
Market makers and investment professionals in our
revenue-producing units are responsible for pricing our
financial instruments. Our control infrastructure is
independent of the revenue-producing units and is
fundamental to ensuring that all of our financial
instruments are appropriately valued at market-clearing
levels. In the event that there is a difference of opinion in
situations where estimating the fair value of financial
instruments requires judgment (e.g., calibration to market
comparables or trade comparison, as described below), the
final valuation decision is made by senior managers in
control and support functions. This independent price
verification is critical to ensuring that our financial
instruments are properly valued.
Price Verification. All financial instruments at fair value in
levels 1, 2 and 3 of the fair value hierarchy are subject to
our independent price verification process. The objective of
price verification is to have an informed and independent
opinion with regard to the valuation of financial
instruments under review. Instruments that have one or
more significant inputs which cannot be corroborated by
external market data are classified within level 3 of the fair
value hierarchy. Price verification strategies utilized by our
independent control and support functions include:
‰Trade Comparison. Analysis of trade data (both internal
and external where available) is used to determine the
most relevant pricing inputs and valuations.
‰External Price Comparison. Valuations and prices are
compared to pricing data obtained from third parties
(e.g., brokers or dealers, MarkIt, Bloomberg, IDC,
TRACE). Data obtained from various sources is
compared to ensure consistency and validity. When
broker or dealer quotations or third-party pricing
vendors are used for valuation or price verification,
greater priority is generally given to executable
quotations.
‰Calibration to Market Comparables. Market-based
transactions are used to corroborate the valuation of
positions with similar characteristics, risks and
components.
‰Relative Value Analyses. Market-based transactions
are analyzed to determine the similarity, measured in
terms of risk, liquidity and return, of one instrument
relative to another or, for a given instrument, of one
maturity relative to another.
‰Collateral Analyses. Margin calls on derivatives are
analyzed to determine implied values which are used to
corroborate our valuations.
‰Execution of Trades. Where appropriate, trading desks
are instructed to execute trades in order to provide
evidence of market-clearing levels.
‰Backtesting. Valuations are corroborated by
comparison to values realized upon sales.
See Notes 5 through 8 to the consolidated financial
statements for further information about fair value
measurements.
Review of Net Revenues. Independent control and
support functions ensure adherence to our pricing policy
through a combination of daily procedures, including the
explanation and attribution of net revenues based on the
underlying factors. Through this process we independently
validate net revenues, identify and resolve potential fair
value or trade booking issues on a timely basis and seek to
ensure that risks are being properly categorized and
quantified.
Review of Valuation Models. Our independent model
risk management group (Model Risk Management),
consisting of quantitative professionals who are separate
from model developers, performs an independent model
review and validation process of our valuation models.
New or changed models are reviewed and approved prior
to being put into use. Models are evaluated and re-
approved annually to assess the impact of any changes in
the product or market and any market developments in
pricing theories. See “Risk Management — Model Risk
Management” for further information about the review
and validation of our valuation models.
52 Goldman Sachs 2015 Form 10-K