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FRM Part II · FRM Exam Part II · Credit Risk Management

A bank wants a conservative exposure measure for setting counterparty credit limits on a derivatives portfolio. It chooses the 97.5th percentile of the simulated distribution of portfolio value at each future date. What is this measure called, and what does its maximum over time represent?

This is potential future exposure, a high percentile of the exposure distribution at each future date. Its maximum over the life of the portfolio is the peak exposure, commonly used for credit limits because it captures tail outcomes rather than averages.

  1. APotential future exposure; its maximum is peak exposureCorrect
  2. BExpected positive exposure; its maximum is the effective EPE
  3. CCurrent exposure; its maximum is the replacement cost
  4. DExpected negative exposure; its maximum is the CVA

Explanation

Potential future exposure is a high quantile of the exposure distribution at a future date, and the highest PFE across the horizon is the peak (maximum) exposure. EPE is an average, not a quantile. Current exposure is today's replacement cost, and ENE concerns the bank's own liabilities.

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