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CMA Final · Risk Management in Banking and Insurance · Credit Risk Management

Under the Basel framework, the 'loss given default' (LGD) of a credit exposure is best described as:

Loss given default is the share of the exposure the bank expects to lose if the borrower defaults, after taking account of recoveries from collateral and other sources. It is distinct from probability of default, exposure at default and maturity, which are the other credit risk parameters.

  1. AThe probability that the borrower defaults within one year
  2. BThe portion of the exposure expected to be lost if default occurs, after recoveriesCorrect
  3. CThe outstanding amount at the time of default
  4. DThe residual maturity of the exposure in years

Explanation

LGD measures the percentage of exposure that is not recovered once a borrower defaults, i.e. 1 minus the recovery rate. Probability of default is a separate parameter, and exposure at default is the outstanding amount at default.

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