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FRM Part II · FRM Exam Part II · The Global Drivers of Private Credit

A private credit fund has USD 400 million of equity commitments fully invested and borrows USD 200 million from banks via a subscription and asset-backed facility, investing the total in loans yielding 11% with credit losses of 2% of loan assets annually. Borrowing costs are 6% on the debt. Ignoring fees, what is the fund's annual return on equity?

The fund's return on equity is 10.5%. Assets total USD 600 million, earning 66 million; credit losses of 12 million and interest of 12 million leave 42 million, which divided by 400 million equity gives 10.5%. This shows how leverage and losses together determine equity returns.

  1. A11.0%
  2. B9.0%
  3. C10.5%Correct
  4. D12.0%

Explanation

Assets are 400+200 = 600 million (if equity of 400 is invested plus 200 borrowed). Income 11% x 600 = 66; losses 2% x 600 = 12; interest 6% x 200 = 12. Net = 66-12-12 = 42; ROE = 42/400 = 10.5%. Using unlevered 11% ignores leverage and losses; 9.0% (net 36/400) subtracts losses but errs on the base.

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