Question
Expected Loss (EL) in credit risk refers to the
anticipated financial loss from a borrower's default . Which of the following is NOT one of the components required for credit risk quantification under the EL model ?Solution
Expected Loss (EL) in credit risk refers to the anticipated financial loss from a borrower's default, encompassing the probability of default (PD), the potential loss given default (LGD), and the exposure at default (EAD). It is a key metric for assessing , quantifying and managing credit risk, helping financial institutions estimate potential losses and make informed decisions about lending, pricing, and risk management. Components of EL:
- Probability of Default (PD): The likelihood that a borrower will not repay a loan or meet other financial obligations.
- Loss Given Default (LGD): The percentage of the outstanding loan balance that a lender is expected to lose if a borrower defaults, accounting for collateral recovery.
- Exposure at Default (EAD): The total amount of credit exposure a lender has at the time of default, including outstanding loan balances.
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