Answer-first summary for fast verification
Answer: The model coefficient \( a \) directly relates to the correlations between the default probability distributions \( U_i \) of the loans in the portfolio.
## Explanation In the Vasicek model: - **Option A** is incorrect because in the Vasicek model, values in the extreme **left** tail (low values) of \( U_i \) represent default, not the right tail. - **Option B** is incorrect because a **low** value of factor \( F \) represents economic weakness (bad economic conditions), while a **high** value represents economic strength. - **Option C** is incorrect because the factor \( F \) is a common systematic factor affecting all borrowers, not specific to individual companies. The sensitivity to \( F \) (captured by \( a_i \)) may vary, but \( F \) itself is the same for all. - **Option D** is correct because the coefficient \( a \) (or \( a_i \)) represents the sensitivity to the systematic factor \( F \), and since \( F \) is common to all loans, \( a \) directly determines the correlation between the default distributions \( U_i \) of different loans in the portfolio.
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A junior analyst at a banking supervisory agency is taking an internal training class on the Vasicek model. The analyst reviews the following equations related to the model:
Default Rate as a function of
Which of the following statements regarding the Vasicek model is correct?
A
The default probabilities of the individual loans in a portfolio are each mapped to the standard normal distribution , of which values in the extreme right tail represent default.
B
A low value of the factor indicates that the economy is strong, while a high value of represents economic weakness.
C
For corporate borrowers, the value of the factor is higher for loans to companies with more cyclical businesses.
D
The model coefficient directly relates to the correlations between the default probability distributions of the loans in the portfolio.