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

A bank's corporate loan book is heavily exposed to a single industry, with several large borrowers whose defaults are driven by the same sector downturn. Which risk is most directly increased by this exposure pattern?

Concentration risk from correlated defaults within the sector is increased, because borrowers sharing one industry driver tend to default together, producing clustered losses and a fatter loss distribution tail than a diversified book would show.

  1. AConcentration risk arising from correlated defaults within the sectorCorrect
  2. BInterest rate risk from repricing mismatches
  3. CSettlement risk from delayed payment transfers
  4. DModel risk from using a single scoring system

Explanation

Borrowers in one industry tend to default together because they share a common driver. This raises the likelihood of clustered losses and fattens the tail of the loss distribution. The other risks are not what the sector overlap primarily creates.

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