Financial Risk Management Credit Risk Management 2

Question 1

What is 'concentration risk' in a credit portfolio?

Accepted Answer

Excessive exposure to a single borrower, sector, or geography

Answer

Concentration risk arises when a portfolio is overly exposed to a single name, industry, or region, limiting the benefits of diversification.

Question 2

What is a credit migration matrix used for in credit risk management?

Accepted Answer

Estimating the probability that a borrower's credit rating will change over time

Answer

A credit migration (transition) matrix shows the historical probability of moving from one credit rating to another over a given horizon.

Question 3

Net Present Value (NPV) of a CDS from the protection buyer's perspective is zero at inception because:

Accepted Answer

The present value of the premium leg equals the present value of the protection leg at fair spread

Answer

At inception, the CDS spread is set so that the PV of expected premium payments equals the PV of expected default protection payouts.

Question 4

What is 'credit VaR' (CVaR in the credit context)?

Accepted Answer

The difference between worst-case credit loss and expected credit loss at a given confidence level

Answer

Credit VaR measures the unexpected credit loss—the excess of worst-case over expected losses at a specified confidence level—used to set economic capital.

Question 5

Recovery rate in credit risk is most accurately defined as:

Accepted Answer

The fraction of exposure a lender recovers after a borrower defaults

Answer

Recovery rate is the portion of the outstanding exposure that is ultimately collected through asset liquidation, restructuring, or legal proceedings.

Financial Risk Management Practice Test

Financial Risk Management Practice Test

Financial Risk Management Credit Risk Management 2