Blog Article:

Stress Testing

Stress Testing

Many financial models will be being stress tested right now, with assumptions being included which no one ever dreamt of.

It is always a good idea to include stress cases in models and not just as a reaction to serious world events.

Stress cases should test a combination of downsides of all the major assumptions.  They should trigger overdrafts, lack of finance and default.

When building a model, I recommend switching continually between a base case and a stress case.  A stress case is a very good way of highlighting modelling errors which may well not be picked up if only a base case and minor variations are run.

Here are some of the areas which should be tested with a stress case:

  • Loan capping
  • Overdrafts / revolving credit facilities
  • Tax losses
  • Dividend payments
  • Interest on cash balances and overdrafts
  • Ratios
  • Default triggers

Many a modelling error has been missed because of a lack of robust sensitivity testing. Therefore, remember to set up stress testing and check that the figures and results make sense.

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