Credit Risk Management Professional 4

Question 1

Which of the following is a key limitation of using credit ratings from external agencies in assessing corporate credit risk?

Accepted Answer

Ratings tend to be backward-looking and may lag actual credit deterioration

Answer

External ratings are often criticized for being slow to reflect deteriorating credit conditions, as seen prominently during the 2008 financial crisis with mortgage-backed securities.

Question 2

A lender calculates the Debt Service Coverage Ratio (DSCR) for a commercial real estate loan. A DSCR of 0.85x implies what?

Accepted Answer

The property's net operating income covers only 85% of debt service

Answer

A DSCR below 1.0x means the property's net operating income is insufficient to cover debt service payments, indicating negative cash flow coverage.

Question 3

In a collateralized loan obligation (CLO), what is the primary function of the 'equity tranche'?

Accepted Answer

To absorb first losses and receive residual cash flows after senior tranches are paid

Answer

The equity tranche (also called the 'first-loss piece') absorbs initial losses, protecting senior tranches, and receives any residual income after all senior obligations are met.

Question 4

Which technique involves assigning risk weights to off-balance-sheet commitments to convert them to credit risk equivalent on-balance-sheet exposures?

Accepted Answer

Credit Conversion Factor (CCF) application

Answer

The Credit Conversion Factor (CCF) converts off-balance-sheet exposures (like undrawn commitments) to credit equivalent amounts for risk-weighting purposes.

Question 5

A borrower's Altman Z-score is calculated at 1.5. What does this signal to the credit analyst?

Accepted Answer

The firm is in the 'distress zone' with high bankruptcy probability

Answer

An Altman Z-score below 1.81 falls in the distress zone, indicating high probability of bankruptcy within two years.

Credit Risk Management Practice Test

Credit Risk Management Practice Test

Credit Risk Management Professional 4