Credit Risk Management Trivia 3 — Questions and Answers
Question 1: What does the acronym 'DSCR' stand for in commercial real estate credit analysis?
- Default Scenario Credit Rating
- Debt Service Coverage Ratio (Correct answer)
- Distressed Securities Credit Review
- Dynamic Stress Correlation Ratio
Correct answer: Debt Service Coverage Ratio
Debt Service Coverage Ratio (DSCR) measures a property's net operating income relative to its annual debt payments, indicating ability to service debt.
Question 2: Under Basel III, what is the minimum Common Equity Tier 1 (CET1) capital ratio required for banks?
- 2.0%
- 4.5% (Correct answer)
- 6.0%
- 8.0%
Correct answer: 4.5%
Basel III requires banks to maintain a minimum CET1 ratio of 4.5% of risk-weighted assets, representing the highest quality capital buffer.
Question 3: Which credit risk concept refers to the tendency of credit quality to deteriorate as economic conditions worsen?
- Procyclicality (Correct answer)
- Mean reversion
- Convexity risk
- Rating drift
Correct answer: Procyclicality
Procyclicality describes how credit risk measures like PDs and capital requirements tend to increase during downturns, potentially amplifying economic cycles.
Question 4: What is a 'zombie loan' in banking terminology?
- A loan to a deceased borrower
- A non-performing loan kept on books to avoid recognizing losses (Correct answer)
- A loan secured by cemetery real estate
- A short-term bridge loan with high interest rates
Correct answer: A non-performing loan kept on books to avoid recognizing losses
Zombie loans are non-performing loans that banks continue to carry on their books rather than writing off, often to avoid recognizing losses that would impair capital.
Question 5: In credit risk, what is the purpose of a 'haircut' applied to collateral?
- To reduce the borrower's credit score calculation
- To account for potential decline in collateral value during liquidation (Correct answer)
- To increase the interest rate on secured loans
- To limit the maximum loan-to-value ratio by regulation
Correct answer: To account for potential decline in collateral value during liquidation
A haircut reduces the recognized value of collateral below its market value to account for potential price declines, liquidity costs, and uncertainty during forced liquidation.
Question 6: Which term describes a credit facility where multiple banks jointly lend to a single borrower under one agreement?
- Participatory loan
- Syndicated loan (Correct answer)
- Mezzanine financing
- Club deal
Correct answer: Syndicated loan
A syndicated loan involves a group of lenders (the syndicate) collectively providing credit to a single borrower under a shared loan agreement with one lead arranger.
Question 7: What credit scoring method assigns weights to financial ratios to produce a single bankruptcy prediction score?
- Monte Carlo simulation
- Altman Z-score (Correct answer)
- KMV model
- CreditMetrics
Correct answer: Altman Z-score
The Altman Z-score combines five weighted financial ratios (working capital, retained earnings, EBIT, market cap, sales) to predict corporate bankruptcy probability.
Credit Risk Management Trivia 3
What does the acronym 'DSCR' stand for in commercial real estate credit analysis?