Explanation:
Credit VaR (also known as Unexpected Loss) is calculated as the Worst-Case Loss (WCL) at a given confidence level minus the Expected Loss (EL).
1. Calculate Expected Loss (EL):
$1,000,000$50 \times 0.015 = 0.75$ defaults$0.75 \times `1`,000,000 = \`750`,000$2. Calculate Worst-Case Loss (WCL) & Credit VaR:
If we follow the text strictly stating the 95th percentile is 7 defaults, Credit VaR = (7 \times \`1,000,000) - \750`,000 = \`6`,250,000$ (which is not an option).
However, given standard test bank questions of this type, the options perfectly align with the WCL corresponding to 6 defaults:
$6 \times `1`,000,000 = \`6`,000,000$,000,000 - \750`,000 = \`5`,250,000$.Option D mathematically completes the intended standard calculation for Unexpected Loss.
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24.11.3. In the portfolio, there are 50 credits with a combined value of $50,000,000. This indicates that each credit holds a face value of $1,000,000 in the absence of default. The default correlation is 0 and , and the number of defaults is binomially distributed with parameters n = 50 and . The 95th percentile corresponds to 7 defaults. Find the credit Value at Risk (VaR) of this distribution.
A
$6,000,000
B
$750,000
C
$4,500,000
D
$5,250,000
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