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UGD for Initial Ratings

 

Initial Rating

1- UGD

AAA

69%

AA

73%

A

71%

BBB

65%

BB

52%

B

48%

CCC

48%

 

Problem

Problem

ABC bank has extended a line of credit of US$120mn to XYZ company. The company has already drawn US$50mn of the line. The company is assumed to have a Usage Given Default of 40% and companies with similar ratings are known to have a default probability of 20%. The assets of the company are such that it will not be possible to recover more than 50% of the value. What is the Expected Loss?
 

Solution

OS =  $50mn
COM = $120mn
Undrawn Portion            = $120mn - $50mn = $70mn
UGD                              = 40%
Adjusted Exposure (EA)  = $50mn + 40% * ($70mn) = $50mn + $28mn = $78mn
Expected Loss (EL)         = EAD * PD * LGD
                                     = $78mn * 0.2 * 0.5
                                     = $7.8mn
 

 

Issues in Parameterising Credit Risk Models
 

  • All the data for an obligor must be accurate and complete. A “Drill –up” approach is required
  • UGD depends on the risk rating of the facility which is generally internal rating. The accuracy of such rating is questionable
  • Not all firm are rated by NSRSO
  • LGD is dependent on the seniority in claim and the collateral for the same

Corporate Bonds

Recovery Rates

Lieberman

Christos

Senior Secured

53.80%

57.89%

Senior Unsecured

51.13%

47.65%

Subordinated

32.74%

31.34%

Junior Subordinated

17.09%

N.A

 

  • Privately placed debt has fared better than publicly placed debts
  • The EDF has been based on publicly traded firms so it is not entirely useful in its avatar for
  • private firms




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