Exam 11: Credit Risk: Loan Portfolio and Concentration Risk

Concentration limits are used to either reduce or increase exposure to specific industries.

National Banks Bank A Bank B Real Estate Loans 60 percent 30 percent 56 percent Consumer Loans 20 percent 30 percent 28 percent Commercial Loans 20 percent 10 percent 16 percent -What is Bank B's standard deviation of its asset allocation proportions relative to the national banks average? Use the formula in the textbook.

Borrower Rating Loan Amount Expected Return Standard Deviation A \ 40 million 12 percent 1 percent B \ 20 million 15 percent 2 percent C \ 30 million 18 percent 3 percent -What is the risk (standard deviation of returns) on the bank's loan portfolio if loan returns are uncorrelated (? = 0)?

In models that are based on loan loss ratios, a β that is found to be less than one for a particular loan sector indicates that

Recent Federal Reserve policy for measuring credit concentration risk favors technical models over subjective analysis.

Migration analysis is a tool to measure credit concentration risk and refers to

Migration analysis is not appropriate for an FI to use in the analysis of credit risk of consumer loans and credit card portfolios.

Which of the following methods measure loan concentration risk by tracking credit ratings of firms in particular sectors or ratings class for unusual downgrades?

Portfolio risk can be reduced through diversification only if the returns of the loans in the portfolio are negatively correlated.

The all-in-spread (AIS) used in the Moody's Analytics model is the difference between the interest rate on a loan and the prime lending rate at the time the loan was originated.

In the Moody's Analytics model, which of the following is a function of the historical returns of the individual assets.

Any model that seeks to estimate an efficient frontier for loans, and thus the optimal proportions in which to hold loans made to different borrowers, needs to determine and measure the

National Banks Bank A Bank B Real Estate Loans 60 percent 30 percent 56 percent Consumer Loans 20 percent 30 percent 28 percent Commercial Loans 20 percent 10 percent 16 percent -What is Bank A's standard deviation of its asset allocation proportions relative to the national banks average? Use the formula in the textbook.

The concentration limit method of managing credit risk concentration involves estimating the minimum loan amount to a single customer as a percent of capital.

Which of the following is the legislation that required bank regulators to incorporate credit concentration risk into their evaluation of bank insolvency risk.

As part of measuring unobservable default risk between borrowers, the Moody's Analytics model decomposes asset returns into

Loan loss ratio models are based on historical loan loss ratios of specific sectors relative to the historic loan loss ratios of the FI's entire loan portfolio.

Kansas Bank has a policy of limiting their loans to any single customer so that the maximum loss as a percent of capital will not exceed 20 percent for both secured and unsecured loans. The limit has been adopted under the assumption that if the unsecured loan is defaulted, there will be no recovery of interest or principal payments. For loans that are secured (collateralized), it is expected that 40 percent of interest and principal will be collected. -Suppose Kansas Bank wants to ensure that its maximum loss on a secured (collateralized) loan is 10 percent (as a percent of capital). If it wishes to keep a concentration limit at 40 percent for secured loans, what is the estimated amount lost per dollar of defaulted secured loan?

General diversification limits established by life and property and casualty insurance regulators are based on the concepts of modern portfolio theory.

A disadvantage to modern portfolio theory (MPT) is that small institutions generally hold significant amounts of regionally specific and illiquid loans.