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FRM Part II · FRM Exam Part II · Introduction to Credit Risk Modeling and Assessment

A bank compares through-the-cycle (TTC) ratings from an agency with point-in-time (PIT) ratings from its internal model. During a sharp economic downturn, which pattern would the risk manager most expect?

PIT ratings should migrate more than TTC ratings in a downturn. Point-in-time ratings reflect current conditions, so downgrades surge and the matrix varies with the cycle, whereas through-the-cycle ratings are deliberately stable and change less.

  1. ATTC ratings migrate more quickly than PIT ratings, giving a more volatile transition matrix
  2. BPIT ratings migrate more than TTC ratings, so the PIT transition matrix shows greater cyclical variation in downgradesCorrect
  3. CBoth systems produce identical transition matrices over the cycle
  4. DTTC ratings show higher default rates for each grade in recessions than PIT ratings

Explanation

PIT ratings respond to current conditions, so they downgrade more in recessions and upgrade in expansions, giving cyclical transition matrices. TTC ratings aim to stay stable across the cycle, so migrations are smoother, and default rates per grade vary more instead.

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