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FRM Part II · FRM Exam Part II · Portfolio Credit Risk

A bank's credit portfolio is heavily concentrated in a single borrower that represents 15% of total exposure. Which action would most directly reduce the name concentration risk that is not captured by a granular-portfolio assumption such as that behind the asymptotic single risk factor model?

Reducing the large single-name exposure or hedging it with single-name credit default swaps best addresses name concentration. The risk is idiosyncratic and fails to diversify when one borrower dominates, while changing recovery or confidence assumptions only changes the measured figure, not the underlying risk.

  1. AReduce the single-name exposure or hedge it, for example with single-name credit default swapsCorrect
  2. BIncrease the number of small retail loans with the same systematic risk factor
  3. CRaise the average recovery rate assumption for the portfolio
  4. DLower the confidence level used in the credit VaR estimate

Explanation

Name concentration is idiosyncratic risk that fails to diversify away when a few large exposures dominate. Reducing the exposure or buying single-name protection addresses it directly. Adding loans exposed to the same systematic factor does not remove the concentration. Changing the recovery assumption or confidence level alters the reported number, not the actual concentration.

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