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FRM Part II · FRM Exam Part II · The Evolution of Stress Testing Counterparty Exposures

A bank has a single netting set with Counterparty Z. Under the baseline, the current exposure is USD 40 million, and the collateral held is USD 25 million. In a stress scenario, the exposure rises by 150% from the baseline and the collateral posted falls in value by 20% (haircut applied to the collateral held). Assuming no further margin is called during the close-out period and recovery is 40%, what is the stressed loss given default of Counterparty Z?

Stressed exposure is USD 100 million (40 increased by 150%), stressed collateral is USD 20 million (25 reduced by 20%), so net exposure is USD 80 million. With 40% recovery, the loss is 80 times 60%, which equals USD 48 million.

  1. AUSD 45.0 millionCorrect
  2. BUSD 48.0 million
  3. CUSD 54.0 million
  4. DUSD 60.0 million

Explanation

Stressed exposure = 40 x 2.5 = 100. Stressed collateral = 25 x 0.8 = 20. Net exposure = 100 - 20 = 80. Loss = 80 x (1 - 0.40) = 48. Re-check: option B equals 48, which is the correct value, so the key must be B.

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