FRM Part II · FRM Exam Part II · Credit Scoring and Rating
A bank observes that the one-year default rate for a speculative-grade rating class was 4% in year one and 6% in year two, among surviving issuers (conditional on no earlier default). What is the two-year cumulative default rate?
The two-year cumulative default rate is 9.76%. Survival over two years is 0.96 times 0.94, which equals 0.9024, so cumulative default is 1 minus 0.9024. Adding 4% and 6% to get 10% overstates it because year-two defaults apply only to issuers that survived year one.
- A10.00%
- B9.76%Correct
- C5.00%
- D2.40%
Explanation
Survival = (1−0.04)×(1−0.06) = 0.96×0.94 = 0.9024. Cumulative default = 1−0.9024 = 9.76%. Simply adding 4% and 6% ignores that year-two defaults apply only to survivors.
Did you get it right without looking?
One question tells you little. A timed set on Credit Scoring and Rating shows your real accuracy, how long you take and where you lose marks.
More Credit Scoring and Rating questions
- A credit analyst is reviewing how agencies treat issuer-specific versus sovereign factors when assigning a corporate rating to a company ope…
- A bank validates its internal rating grade 4, which has an assigned PD of 2.0%. Over the past year, 500 obligors were in grade 4 at the star…
- A bank's validation team assesses the quality of an agency's rating system by constructing a cumulative accuracy profile (CAP) and its accur…
- A bank's internal rating system for corporate borrowers has 12 non-default grades. Review shows 70% of exposures sit in two adjacent grades.…
- A bank's risk team studies a one-year rating transition matrix built from agency data. Which statement about the default row (D) of a standa…
- A portfolio manager notes that during economic expansions, a rating agency's issuer ratings are rarely changed, but during sharp recessions …