KeyBank 2014 Annual Report Download - page 195

Corporate Treasury, within our Finance area, is responsible for the quarterly valuation process that determines
the fair value of our student loans held in portfolio that are accounted for at fair value and previously for our
loans and securities in our education loan securitization trusts. Corporate Treasury provides these fair values to a
Working Group Committee (the “Working Group”) comprising representatives from the line of business, Credit
and Market Risk Management, Accounting, Business Finance (part of our Finance area), and Corporate Treasury.
The Working Group is a subcommittee of the Fair Value Committee that is discussed in more detail in Note 6
(“Fair Value Measurements”). The Working Group reviews all significant inputs and assumptions and approves
the resulting fair values.
The Working Group reviews actual performance trends of the loans on a quarterly basis and uses statistical
analysis and qualitative measures to determine assumptions for future performance. Predictive models that
incorporate delinquency and charge-off trends along with economic outlooks assist the Working Group to
forecast future defaults. The Working Group uses this information to formulate the credit outlook related to the
loans. Higher projected defaults, fewer expected recoveries, elevated prepayment speeds, and higher discount
rates would be expected to result in a lower fair value of the portfolio loans at fair value. Default expectations
and discount rate changes have the most significant impact on the fair values of the loans. Increased cash flow
uncertainty, whether through higher defaults and prepayments or fewer recoveries, can result in higher discount
rates for use in the fair value process for these loans. This process was previously used in the valuation of the
education loan securitization trust loans.
The valuation process for the portfolio loans that are accounted for at fair value is based on a discounted cash
flow analysis using a model purchased from a third party that is maintained by Corporate Treasury. The valuation
process begins with loan-by-loan level data that is aggregated into pools based on underlying loan structural
characteristics (i.e., current unpaid principal balance, contractual term, interest rate). Cash flows for these loan
pools are developed using a financial model that reflects certain assumptions for defaults, recoveries, status
changes, and prepayments. A net earnings stream, taking into account cost of funding, is calculated and
discounted back to the measurement date using an appropriate discount rate. This resulting amount is used to
determine the present value of the loans, which represents their fair value to a market participant.
The unobservable inputs set forth in the following table are reviewed and approved by the Working Group on a
quarterly basis. The Working Group determines these assumptions based on available data, discussions with
appropriate individuals within and outside of Key, and the knowledge and experience of the Working Group
members.
A similar discounted cash flow approach to that described above was used on a quarterly basis by Corporate
Treasury to determine the fair value of the trust securities. In valuing these securities, the discount rates used
were provided by a third-party valuation consultant. These discount rates were based primarily on secondary
market spread indices for similar student loans and asset-backed securities and were developed by the consultant
using market-based data. On a quarterly basis, the Working Group reviewed the discount rate inputs used in the
valuation process for reasonableness.
A quarterly variance analysis reconciles valuation changes in the model used to calculate the fair value of the
trust loans and securities and the portfolio loans at fair value. This quarterly analysis considers loan and securities
run-off, yields, future default and recovery changes, and the timing of cash releases to us from the trusts. We also
perform back-testing to compare expected defaults to actual experience; the impact of future defaults can
significantly affect the fair value of these loans and securities over time. In addition, our internal model
validation group periodically performs a review to ensure the accuracy and validity of the model for determining
the fair value of these loans and securities.
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