Credit Analysis Models Q Bank
Set 1 Questions
1. Which of the following statements is most accurate? The four measures commonly used to
quantify credit risk are:
A. credit spread, risk premium, present value of expected loss and recovery rate.
B. probability of default, loss given default, expected loss, and the present value of expected
loss.
C. recovery rate, loss given default, expected loss and credit spread.
Table 1: Information on three bond issues
Company Probability of Expected Loss Present Value of the Expected
Default (% per year) (dollars per 100 par) Loss (dollars per 100 par)
Ace Corp. 1.25 $25.00 $21.70
Paxton, plc. 0.75 $26.50 $22.00
Bosse Inc. 2.35 $40.00 $35.00
2. Based on the information in Table 1, all else constant which company is most risky in terms
of probability of default and which company is least risky in terms of expected loss? A.
Paxton, Bosse.
B. Bosse, Ace.
C. Bosse, Bosse.
3. The difference in ranking between probability of default and expected loss is due to: A.
discounting.
B. loss given default.
C. time value of money.
4. Based on Table 1, which company is the least risky according to the most preferred measure?
A. Ace.
B. Paxton.
C. Bosse.
5. Based on credit scoring, if Borrower X has a credit score of 600, and Borrower Y has a credit
score of 300, then:
A. Borrower X is half as likely to default as Borrower Y.
B. as economy deteriorates, Borrower X score changes to reflect the economic state even if
his financial circumstances remain unaffected.
C. Borrower X is less likely to default than Borrower Y
6. Credit scores and credit ratings both provide a(n):
A. cardinal ranking of a borrower’s credit risk.
B. ordinal ranking of a borrower’s credit risk.
C. an estimate of the borrower’s default probability.
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, Credit Analysis Models Q Bank
7. Regarding fcredit fratings, fwhich fof fthe ffollowing fstatements fis fleast faccurate? f
A. Credit fratings ftend fto fbe fstable fover ftime fwhich freduces fvolatility fin fdebt fmarket
fprices. f
B. Credit fratings fdo fnot fdepend fon fthe fbusiness fcycle. f
C. An fissuer-pays fmodel fdoes fnot fcreate fan fincentive fconflict. f
f
8. Which fof fthe ffollowing fis fmost flikely fa fcharacteristic fof fthe fstructural fmodel? f
A. In fa fstructural fmodel, fholding fthe fcompany’s fstock fis fcomparable fto fowning fa
fEuropean fcall foption fon fthe fcompany’s fassets f
B. The fstructural fmodel fimplies fthat fthe fprobability fof fdefault fis fequal fto fthe fprobability
fthat fthe fequity’s fvalue fis fless fthan fthe fface fvalue fof fthe fdebt. f
C. In fa fstructural fmodel, fowning fa fcompany’s fdebt fis fsimilar fto fowning fa frisk-free
fzerocoupon fbond fand fsimultaneously fbuying fa fEuropean fput foption fon fthe
fcompany’s fassets fwith fthe fsame fexercise fprice fas fthe fbond’s fface fvalue. f
f
Table f2: fSelect finformation fon fCompany fZ f
Asset fvalue fat ftime ft, fAt f $1,000. f
Expected freturn fon fassets: fu f 0.04 fper fyear. f
Risk-free frate: fr f 0.02 fper fyear. f
Face fvalue fof fdebt: fK f $750. f
Time fto fmaturity fof fdebt: fT-t f 1 fyear. f
Asset freturn fvolatility: fσ f 0.25 fper fyear f
Company fZ finformation ffor fcredit frisk f
fmeasures: f
N(-d1) f 0.0876 f
N(-d2) f 0.1344 f
N(-e1) f 0.0755 f
N(-e2) f 0.1179 f
Expected floss f $9.84 f
Present fvalue fof fexpected floss f $11.20 f
f
9. Based fon fthe finformation fin fTable f2, fusing fthe fstructural fmodel ffor fcredit frisk fmeasures,
fthe fprobability fof fdefault fis fclosest fto: fA. f11%. f
B. f12%. fC.
f10%. f
f
10. Based fon fthe finformation fin fTable f2, fthe fvalue fan finvestor fwould fpay fto fan finsurer fto
fremove fthe fdefault frisk ffrom fholding fCompany fZ fbond fis fclosest fto: fA. f$11. f
B. f$12. fC.
f$13. f
f
11. In freduced fform fmodels, fthe fexpression ffor fdebt fprice fconsists fof: fA. fpresent fvalue fof
fthe frecovery frate fand floss fgiven fdefault. f
Copyright © IFT. All rights reserved. Page 2
Set 1 Questions
1. Which of the following statements is most accurate? The four measures commonly used to
quantify credit risk are:
A. credit spread, risk premium, present value of expected loss and recovery rate.
B. probability of default, loss given default, expected loss, and the present value of expected
loss.
C. recovery rate, loss given default, expected loss and credit spread.
Table 1: Information on three bond issues
Company Probability of Expected Loss Present Value of the Expected
Default (% per year) (dollars per 100 par) Loss (dollars per 100 par)
Ace Corp. 1.25 $25.00 $21.70
Paxton, plc. 0.75 $26.50 $22.00
Bosse Inc. 2.35 $40.00 $35.00
2. Based on the information in Table 1, all else constant which company is most risky in terms
of probability of default and which company is least risky in terms of expected loss? A.
Paxton, Bosse.
B. Bosse, Ace.
C. Bosse, Bosse.
3. The difference in ranking between probability of default and expected loss is due to: A.
discounting.
B. loss given default.
C. time value of money.
4. Based on Table 1, which company is the least risky according to the most preferred measure?
A. Ace.
B. Paxton.
C. Bosse.
5. Based on credit scoring, if Borrower X has a credit score of 600, and Borrower Y has a credit
score of 300, then:
A. Borrower X is half as likely to default as Borrower Y.
B. as economy deteriorates, Borrower X score changes to reflect the economic state even if
his financial circumstances remain unaffected.
C. Borrower X is less likely to default than Borrower Y
6. Credit scores and credit ratings both provide a(n):
A. cardinal ranking of a borrower’s credit risk.
B. ordinal ranking of a borrower’s credit risk.
C. an estimate of the borrower’s default probability.
Copyright © IFT. All rights reserved. Page 1
, Credit Analysis Models Q Bank
7. Regarding fcredit fratings, fwhich fof fthe ffollowing fstatements fis fleast faccurate? f
A. Credit fratings ftend fto fbe fstable fover ftime fwhich freduces fvolatility fin fdebt fmarket
fprices. f
B. Credit fratings fdo fnot fdepend fon fthe fbusiness fcycle. f
C. An fissuer-pays fmodel fdoes fnot fcreate fan fincentive fconflict. f
f
8. Which fof fthe ffollowing fis fmost flikely fa fcharacteristic fof fthe fstructural fmodel? f
A. In fa fstructural fmodel, fholding fthe fcompany’s fstock fis fcomparable fto fowning fa
fEuropean fcall foption fon fthe fcompany’s fassets f
B. The fstructural fmodel fimplies fthat fthe fprobability fof fdefault fis fequal fto fthe fprobability
fthat fthe fequity’s fvalue fis fless fthan fthe fface fvalue fof fthe fdebt. f
C. In fa fstructural fmodel, fowning fa fcompany’s fdebt fis fsimilar fto fowning fa frisk-free
fzerocoupon fbond fand fsimultaneously fbuying fa fEuropean fput foption fon fthe
fcompany’s fassets fwith fthe fsame fexercise fprice fas fthe fbond’s fface fvalue. f
f
Table f2: fSelect finformation fon fCompany fZ f
Asset fvalue fat ftime ft, fAt f $1,000. f
Expected freturn fon fassets: fu f 0.04 fper fyear. f
Risk-free frate: fr f 0.02 fper fyear. f
Face fvalue fof fdebt: fK f $750. f
Time fto fmaturity fof fdebt: fT-t f 1 fyear. f
Asset freturn fvolatility: fσ f 0.25 fper fyear f
Company fZ finformation ffor fcredit frisk f
fmeasures: f
N(-d1) f 0.0876 f
N(-d2) f 0.1344 f
N(-e1) f 0.0755 f
N(-e2) f 0.1179 f
Expected floss f $9.84 f
Present fvalue fof fexpected floss f $11.20 f
f
9. Based fon fthe finformation fin fTable f2, fusing fthe fstructural fmodel ffor fcredit frisk fmeasures,
fthe fprobability fof fdefault fis fclosest fto: fA. f11%. f
B. f12%. fC.
f10%. f
f
10. Based fon fthe finformation fin fTable f2, fthe fvalue fan finvestor fwould fpay fto fan finsurer fto
fremove fthe fdefault frisk ffrom fholding fCompany fZ fbond fis fclosest fto: fA. f$11. f
B. f$12. fC.
f$13. f
f
11. In freduced fform fmodels, fthe fexpression ffor fdebt fprice fconsists fof: fA. fpresent fvalue fof
fthe frecovery frate fand floss fgiven fdefault. f
Copyright © IFT. All rights reserved. Page 2
