Credit Risk Management Professional 5 — Questions and Answers
Question 1: Under IFRS 9, a loan moves from Stage 1 to Stage 2 when which condition is met?
- The borrower misses two consecutive payments
- There is a significant increase in credit risk since origination (Correct answer)
- The loan is 90 or more days past due
- The borrower's credit score falls below a minimum threshold
Correct answer: There is a significant increase in credit risk since origination
IFRS 9 Stage 2 classification is triggered by a significant increase in credit risk (SICR) relative to origination, requiring recognition of lifetime expected credit losses.
Question 2: A portfolio manager wants to measure the credit risk contribution of a single loan to the overall portfolio VaR. Which concept captures this marginal contribution?
- Standalone VaR
- Marginal VaR (MVaR) (Correct answer)
- Expected Shortfall (ES)
- Credit Value at Risk (CVaR) component
Correct answer: Marginal VaR (MVaR)
Marginal VaR measures the incremental change in portfolio VaR from adding or removing a single position, capturing diversification effects.
Question 3: Which covenant type in a leveraged loan agreement requires the borrower to maintain a minimum financial ratio throughout the life of the loan?
- Incurrence covenant
- Maintenance covenant (Correct answer)
- Negative pledge covenant
- Cross-default covenant
Correct answer: Maintenance covenant
Maintenance covenants require borrowers to meet financial ratio tests (e.g., minimum DSCR) on a regular testing basis, providing lenders with early warning of deterioration.
Question 4: In counterparty credit risk, what is the difference between Current Exposure (CE) and Potential Future Exposure (PFE)?
- CE is the mark-to-market value today; PFE estimates the maximum exposure over a future horizon at a confidence level (Correct answer)
- CE equals the notional amount; PFE equals the mark-to-market value
- CE includes collateral posted; PFE excludes netting agreements
- CE measures sovereign risk; PFE measures corporate counterparty risk
Correct answer: CE is the mark-to-market value today; PFE estimates the maximum exposure over a future horizon at a confidence level
Current Exposure is the replacement cost if the counterparty defaults today, while Potential Future Exposure projects the maximum likely exposure at a future point at a specified confidence level.
Question 5: A bank identifies that its retail auto loan portfolio has a Gini coefficient of 0.45 on its credit scorecard. What does this indicate?
- The scorecard has very poor discriminatory power
- The scorecard has moderate to good discriminatory power (Correct answer)
- The scorecard perfectly separates defaulters from non-defaulters
- The scorecard is over-fitted and should be rebuilt
Correct answer: The scorecard has moderate to good discriminatory power
A Gini coefficient of 0.45 (equivalent to an AUC of ~0.725) represents moderate-to-good discriminatory power for a retail credit scorecard.
Question 6: A bank participates in a bilateral netting agreement with a derivatives counterparty. What is the primary credit risk benefit of netting?
- It eliminates market risk from the derivatives portfolio
- It reduces the net exposure by offsetting positive and negative mark-to-market values across contracts (Correct answer)
- It converts bilateral exposure to centrally cleared exposure
- It transfers counterparty default risk to a third-party guarantor
Correct answer: It reduces the net exposure by offsetting positive and negative mark-to-market values across contracts
Bilateral netting allows a bank to offset mark-to-market gains and losses across multiple contracts with the same counterparty, reducing gross credit exposure to a net figure.
Question 7: Which of the following macroeconomic variables is most commonly used as a systematic factor in credit portfolio models to capture business cycle effects on default rates?
- The Federal Funds Rate
- GDP growth rate (Correct answer)
- Consumer Price Index (CPI)
- Trade deficit figures
Correct answer: GDP growth rate
GDP growth rate is the most widely used macro factor in credit portfolio models as it captures the overall business cycle and correlates strongly with corporate and consumer default rates.
Credit Risk Management Professional 5
Under IFRS 9, a loan moves from Stage 1 to Stage 2 when which condition is met?