Automated valuation model (AVM) accuracy has increased dramatically in recent years due to model enhancements, the availability of new data sources and a renewed focus on valuation precision. The concept is pretty simple—the more applicable information that is available, the more accurate the property valuation model can be. Additionally, modeling systems and techniques have also been enhanced, which has resulted in the creation of more sophisticated AVMs.
This evolution, coupled with valuation-related issues that contributed to the 2008 market crash resulted in a call from industry regulators to heighten the integrity and accuracy of property valuation testing standards. As part of this effort, regulators addressed the use of AVMs in specific lending applications, and have also increased expectations around due diligence through additional regulatory insight added to the Interagency Appraisal and Evaluation Guidelines (Guidelines), initially issued in 1994.
In 2010, the Office of the Comptroller of the Currency (OCC), Federal Reserve Bank, Federal Deposit Insurance Corporation (FDIC), Office of Thrift Supervision (OTS), and National Credit Union Administration (NCUA) revised the Guidelines to more properly address expectations around testing, validation and monitoring of AVMs. Specifically, the Guidelines clearly hold lenders responsible for ensuring third-party valuation services comply and are consistent with supervisory guidance, including the following:
“An institution should establish policies and procedures that provide a sound process for using various methods and tools. Such policies and procedures should … ensure staff has the requisite experience and training to manage the selection, use and validation of an analytical method of technological tool. If an institution does not have the in-house expertise relative to a particular method or tool, then an institution should employ additional personnel or engage a third-party.1”
According to the Guidelines, proper testing, analyzing, documenting, implementing and monitoring of an AVM cascade are all necessary steps toward compliance. While the Guidelines are impartial as to whether an AVM user should achieve this compliance through internal or external sources, it is clear that each present specific and unique challenges. For example, from an internal perspective, many times there is a lack of technical knowledge and/or available resources from the valuation staff. Looking for outside resources is usually difficult because of tight budgets.
Regardless of the approach taken, it is critical that AVM users deepen their understanding around AVMs and find an effective way to fully comply with due diligence and regulation compliancy. In my subsequent columns, I will explore the complexities in greater detail that AVM users face, as well as provide insight into approaches to help mitigate the existing pain points, such as those outlined above. This includes the use of how a properly-designed AVM cascade (a solution that positions multiple valuation models according to accuracy) can provide operational efficiency and optimal compliance.
David Rasmussen is senior vice president of operations at Veros Real Estate Solutions. For more information, call (714) 415-6300.
1—Interagency Appraisal and Evaluation Guidelines, Appendix B, page 50. December 2010.