hard · Frm Part 2 Credit Risk
An analyst calculates a 5-year cumulative PD by raising a 1-year transition matrix to the 5th power: M^5.
If the underlying rating system is strictly Point-in-Time (PIT), how will the resulting cumulative PD likely behave over a full business cycle compared to a system using Through-the-Cycle (TTC) ratings?
- The PIT-based cumulative PD will exhibit much higher volatility and procyclicality, overstating long-term risk in a recession.
- The two approaches will converge to the same 5-year PD because the Markov property enforces long-run mean reversion to the same steady state.
- The PIT-based cumulative PD will be more stable because the matrix already incorporates the current macro-economic state.
- The TTC-based cumulative PD will always be higher because it is calibrated to a 'downturn' scenario by definition.
Sign up free to see the explanation and track your rank →
More Frm Part 2 Credit Risk practice
- According to the structural Merton model, the equity of a levered firm can be viewed as wh
- What is the primary reason why risk-neutral probabilities of default (PD) extracted from c
- A bank utilizes a 'through-the-cycle' (TTC) rating system. During a sharp economic downtur
- If the Area Under the Curve (AUC) from the Receiver Operating Characteristic (ROC) is 0.85
- A Merton-style structural credit model treats a firm's equit… — In this framework, what do
- For a derivatives portfolio, which Counterparty Credit Risk (CCR) metric is primarily used
- In the comparison of rating system philosophies, which system is characterized by stable r
- A bank's internal model for Credit Value Adjustment (CVA) us… — Why is this required by re