aianjie

 

2、Which statement best describes commitments and outstandings?

A) Outstandings includes loans but not bonds.

B) Outstandings represent the maximum possible credit exposure to the lender. 

C) Commitments represent credit available at the lenders’ request.

D) Borrowers can draw down on the commitment up to 100% at their discretion.

aianjie

 

The correct answer is D

Borrowers have the option to draw down on the full commitment as long as no covenants have been breached.

aianjie

 

3、Which of the following statements about covenants is CORRECT? Covenants:

A) decrease adjusted exposure by increasing recovery rates.

B) decrease adjusted exposure by decreasing recovery rates.

C) increase adjusted exposure by decreasing commitments.

D) decrease adjusted exposure by increasing commitments.

aianjie

 

The correct answer is A

Covenants are designed to limit drawdowns as the financial condition of the borrower deteriorates. Covenants do not affect commitments as they are set at initiation of the loan.

aianjie

 

AIM 6: Distinguish between the effects drawn and undrawn portion commitments, respectively have on exposure.

1、The risk-free portion of the bank’s exposure is defined as:

A) (1 ? α) × drawn funds.

B) α × credit line.

C) (1 ?α) × credit line.

D) α × drawn funds.

aianjie

 

The correct answer is C

Since α represents percent of funds drawn down, you can eliminate two of the answer choices. The risky exposure is the amount of drawn funds so (1 ? α) denotes the amount of the total credit line not used and hence not exposed to risk.

aianjie

 

2、ABC Bank has a $5,000,000 commitment to XYZ Corporation. XYZ has currently drawn down α > 0 on its commitment. In addition, the loss given default is estimated at 40%. Which of the following statements is TRUE?

A) ABC’s exposure is greater than ABC’s commitment.

B) XYZ’s exposure is less than XYZ’s commitment.

C) ABC’s exposure is less than ABC’s commitment.

D) XYZ’s exposure is greater than XYZ’s commitment.

aianjie

 

The correct answer is C

Exposure is maximized if 100% of funds are drawn down with no recovery, i.e. LGD = 100%. Since LGD = 40%, commitment of funds to XYZ (from ABC) is greater than adjusted exposure.

aianjie

 

AIM 7: Explain how covenants change the impact of exposures.

To estimate recovery rates from credit risk models, which of the following is required?

A) Analysis of covenants to determine asset seniority.

B) Analysis of covenants to determine asset uniqueness.

C) Collateral value but no analysis of covenants.

D) Liquidity of collateral but no analysis of covenants.

aianjie

 

The correct answer is A

Recovery rates will depend on collateral value (liquidity, uniqueness, etc.) and seniority. Uniqueness is determined by the secondary markets not covenants. No analysis of covenants but collateral value or liquidity of collateral are incorrect since seniority is an important factor in estimating recovery rates.